The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

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This Week: Sell in May???

The Markets

Since the March low, U.S. indices have rebounded more than 10%.  I went back and reviewed this newsletter to see if I missed calling that rally.  While I remained bearish throughout March, on April 4^th I wrote:

“The tape is telling us that the major U.S. market indices are now in a clear technical rally.  It is not exactly clear as to why this is happening, but both the DOW and QQQQ are technical-indicator longs while SPY is moving close to the long side.  (A technical bounce for the dollar is perhaps helping.)  This is the kind of technical rally you should feel free to trade IF your horizon is relatively short.  However, the emerging fundamental situation seems just too bearish for there to be a sustained upward trend. “

Along with my call to go to cash last November – which turned out to be dead on -- this April call once again to the long side isn’t too bad as a market prognostication record. 

My April call on technicals also helps justify the way I like to look at the markets.  I am first and foremost a macro trader who looks for market moves based on broad macro fundamentals.  However, I always do a technical analysis check on the trend suggested by fundamentals. 

On a technical note, the S&P 500 remains well off its October high and thus has a bit more work to do before hitting the possibility of what could be a very ugly triple top situation.  The U.S. indices are now all overbought as well, suggesting at least a small pullback.  In the meantime, the perennial question this column seeks to answer is: which way is the market likely to turn over the longer term.  I have no definitive answer for that question this week but here are some considerations.

First, the current rally has been driven in a significant way by the ongoing boom in oil and commodities.  For that boom to continue, the rest of the world will have to decouple from the slow-growth U.S. economy.  So far, China and India appear to be weathering the U.S. storm.   More surprisingly, France and Germany (but not Spain and Italy) are doing a lot better than one might expect with the euro where it is at.

Second, the current rally is also being driven by something I noted several weeks ago in the newsletter.  This is the possibility that the economy might actually not succumb to negative growth, i.e., a technical recession.  I note hear that Ed Leamer of the UCLA forecast was first out of the gate to stake this claim about the economy and he did it months ahead of the pack.  While I still have my doubts, clearly a lessening fear of recession has helped boost the market.

Third, these positive trends notwithstanding, we are entering the stock market’s historically “cruelest month” whereby New York “sells in May, and then goes away” to the Hamptons and elsewhere.  This behavior may already be in evidence as volume as been low on market up days.

O Canada

Loyal readers may have noted the absence of the newsletter last week.  I was up visiting our Northern friends – two speeches to financial advisors in two different cities on the state of the economy and vagaries of the market.

The best part of the trip was a 17-hour rail journey from Edmonton to Winnipeg – Canada’s breadbasket.  It was truly startling in the middle of a global food crisis to see unending stretches of flat wheat land for virtually the entire journey.   If global warming does indeed hit, this land will grow ever more valuable, and Canada will become ever more hospitable from a climate point of view.  (It hits 50 below in Winnepeg in Winter.)

Quick Takes

1. Be sure and catch “Confessions of a Short Seller” in this week’s Barron’s.  Best précis of the art I’ve seen in a long time.
2. One stat that caught my eye this week was from a WSJ column.  Toll Brothers is selling only one house per month in each of the company’s 300 communities across the U.S.

Presidential Politics

John Edwards endorsement of Barack Obama right after Hillary Clinton won the landslide in West Virginia was brilliant politics that effectively neutralizes the Clinton win.  It will be interesting to see if she can run the rest of the table and how the super delegates might react.    

What puzzles me at this juncture is why the national media is running polls on comparing how Obama does relative to McClain versus how the “dream ticket” of an Obama-Clinton or Clinton-Obama ticket might do.    I’d love to see those numbers.  My sense is that the Obama-Clinton whole is far more powerful than either of the parts when it comes to beating McCain. (I’d also like to see an Obama-Edwards poll against McCain.  Edwards would be formidable – Bill Richardson would not be.) 

The fact is: this is going to be another close race that is going to come down to a battle over a few swing states like Florida and Michigan.   That’s incredible given the low standing of Republicans in the polls.  However, that’s the power of John McCain.

Besides his independence, one of the best things about John McCain is his likeability.  It’s clear, however, that he is going to go right after Barack Obama with the gloves off, with national security the top hit.  I’m not sure the electorate is going to be able to remain enchanted with the guy if that is going to be his campaign M.O.  He might wind up playing right into Barack’s “healing hands” message.

THE CHINA EFFECT

   GO TO YOUTUBE.

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The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

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This Week: Oil and Gas Tax Economics

The Markets

Is the U. S. stock market a leading indicator of the U.S. economy?  That’s the presumption I have historically followed as a self-professed “macro trader” –  see, for example, my trading book “If It Rains in Brazil, Buy Starbucks.”

The “markets as leading indicator” view, however, is a presumption that has been increasingly subject to slippage.  One major “problem” is that U.S. markets are increasingly driven by international currency issues.  For example, the domestic economy might be in trouble but with a weak dollar, a lot of big, U.S.-listed multinationals might do well because of foreign earnings – and make U.S. markets look bullish.   A second reason U.S. markets might not properly signal economic strength or weakness is because of the powerful effects of particular sectors like energy and commodities.

That said, my claim for the past several weeks that the strength of U.S. markets has been merely reflective of a “technical bounce” must be reevaluated in light of recent economic data showing at least a slowing rate of job losses.  If it turns out that we are headed more for a “shallow V” recession than the “deep U” many are worried about, that would certainly be bullish.  Stay tuned.

Presidential Politics and Oil Economics

Based on John McCain’s self-professed ignorance of economics coupled with his ties to a gaggle of “tax cut advisors” like Jack Kemp, I was not particularly surprised that McCain is calling for a moratorium on the gas tax.   I was, however, absolutely floored when the Clinton campaign, which has a much more sophisticated economics team,  jumped on the gas tax bandwagon.

Let’s be really clear about this: A short run cut in the gas tax is sheer economic, fiscal, and environmental lunacy.   Such a tax cut would do little or nothing to cut gas prices in the short run, provide the absolutely wrong incentives for energy conservation over the long run, and contribute to a burgeoning budget deficit – while denying necessary funds for public infrastructure.

The “journalist’s view” of gas tax economics, as mouthed by pundits all last week, is that a gas tax cut would increase gas demand and thereby push the price back up to previous levels.  This is an easy idea for  John Q. Public to understand, but it is likely (almost) totally wrong.   Prices won’t rise so much because of increased demand but rather something far more troubling.  To understand the issue requires just a little bit of heavy economic principles lifting.

To wit, with any tax cut or tax increase, who bears the benefit or burden of the cut or increase depends on both the elasticity of supply and the elasticity of demand in the market.   In the case of gasoline, short run demand is very inelastic – that is, it is very unresponsive to price.  However, in the short run envisioned for the gas tax holiday – the summer driving season – the elasticity of gas supply is close to perfectly inelastic.  This is because of severe refinery constraints in many parts of the country.

Conclusion: If the elasticity of gas supply is perfectly inelastic, any cut in the gas tax would simply result in an almost one-for-one increase in the pump price.  In other words, the gas tax “holiday” for consumers would be no holiday at all but merely another windfall for gasoline refiners.

And speaking of windfalls, I found it amusing that the weekend WSJ took Barack Obama to task for advocating a windfall profit tax – while giving him only the very faintest of praise for not falling in with McCain and Clinton on the gas tax holiday.

In fact, the economics of a windfall profits tax are far more compelling than the WSJ lets on.  Economists view a true windfall tax as a one time event administered retroactively to a period of profit activity over and above those profits which might be earned in a competitive market.  Such a one-time windfall profits tax is the ”best of taxes” in that it has absolutely no impact on resource allocation, e.g., it wouldn’t depress oil production.  Such a point got lost, however, in the WSJ translation.

QUICK TAKES

1. One of the reasons I like reading the Financial Times is that it runs front page stories about things like the price of camels tripling.  The reason: with fuel expensive, more and more farmers are turning in their tractors for camels.  Now somebody tell me how I can go long the camel market.
2. My concern that Obama will be torn apart in the general election seems hardly misplaced as the gutting has already begun.   Reverend Wright and elitist criticisms have brought him right back to the pack in a rough enough way to get even the super delegates thinking.  What’s most disturbing about the gutting is the racist tones the McCain surrogates have already begun to strike – a case in point is the North Carolina ads against Obama.

The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

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This Week: Cost-Push Inflation

STOCKS

The DJIA, Nasdaq, and S&P 500 all remain in a strong technical position despite broad macro-fundamental headwinds.   The big debate now is whether a bottom -- or a false bottom -- has put in.  You can argue it persuasively either way – which means it’s a tossup from a risk/reward perspective.  That, in turn, means that cash still remains king unless you are a very short term trader.

BONDS

After more than two decades of a bull market in bonds, we may now be entering what is likely to be a long term bear market.  The culprit is “cost push inflation” putting upward pressure on yields and downward pressure on bond prices.

Like “moral hazard,” which became the pundits’ favorite buzzword in the midst of the credit crunch, “cost push inflation” will be fashionable on the tube and in the papers over the next some months.  Cost push inflation comes from increases in the prices of production inputs like energy and natural resources.  It may be distinguished from “demand pull inflation,” which is too much money chasing too few goods when an economy is growing robustly.

Demand-pull inflation is easy to cure.  The government  just raises taxes or interest rates. This triggers a contractionary shock and this type of inflation eases as economic growth slows.

Cost-push inflation is a totally different matter.  The worst case scenario is when you have cost push pressures AND a slowing economy.  That’s the “stagflation scenario.”

Right now, cost push pressures are building throughout the world.  The deflationary basket case of Asia – Japan – just saw the first rise in core inflation since 1998 because of non-core elements creeping into the core.   Not surprisingly, this inflation news triggered the worst one-day fall in Japanese bond prices in five years as yields rose significantly.

The Big Picture

It’s easy to get lulled into a false sense of security with the U.S. stock market indices bouncing nicely up.  However, there are too many damn and disparate pressures building in the U.S. and globally to get really comfortable with any bullishness.

• Much of Europe is facing strong inflationary pressures even as Spain and Italy circle round the fiscal profligacy/housing bubble drain.

• Much of what we used to call the “Third World” is suffering from high food prices and protests – with a ripple effect of government interventions bound to totally screw up world grain markets. .

• China and Vietnam are experiencing their worst inflation crises in decades.  Remember that Tiananmen Square was not about democracy but inflation.

• The U.S. consumer continues to fade out of the picture, making a quick recovery all the more uncertain.

• OPEC won’t produce more, Russian production has begun to fall, and Venezuela provides a textbook case in how nationalizing oil production winds up reducing production and revenues.

• Talk of nuking Iran continues to heat up in the face of Iranian nuclear proliferation.

I could go on…but you get the idea.

QUICK TAKES

1. A week after my lament about Peggy Noonan’s column was relegated to the WSJ back pages, she gets put on the main editorial page for the week.  The irony is that it was her worst column of the year.
2. My over-arching point on the Clinton-Obama dustup is not about which candidate would be a better president.  It has simply been that Obama, with his inexperience, is going to get easily ground up by the Republicans leading up to the November election.  That this SHOULD be a major concern to even the most ardent Obama supporters should be evident in the various events of the last few weeks and the hits Obama is taking.   Super delegates take note.
3. Dem Chairman Howard Dean is causing a lot of Dean-like screeching on the Obama side of the ledger.  In a Financial Times interview, Dean was quoted as saying the super delegates should vote for whoever has the best chance of winning the November election – not who wins the most regular delegates or popular.  That’s a sharp counterpoint to Nancy Pelosi’s dictum.
4. Keep your eye on CYD, China Yuchai.  It was one of my picks last week on CNBC.   Nice story stock about diesel provider of choice in China.
5. How about we wake up and stop subsidizing the use of corn to produce fuel.  It’s a net negative on both fuel efficiency and environmental grounds.

The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

Read it and Reap!

This Week: The Bounce is Back

The technical bounce is definitely back after a brief GE derailment several weeks ago.  Momentum, sentiment, and strength indicators all favor the long side.  I don’t recommend being long this market, however, unless you have a very short term horizon and can turn on a dime.  Storm clouds continue to pile high in the sky.  Cash remains king.

In other notable market news, China’s Shanghai market hit a milestone of sorts, falling to half its  value relative to last October’s high.   While the stock market is usually a leading indicator of a country’s economy, China’s fall from bullish grace tells us little because it is due almost entirely to classic bubble bursting activity.

And what was the most bearish news of an otherwise bullish week is a significant spike in the Libor rate, which is used to adjust a lot of debt instruments, including adjustable rate mortgages.  Libor spiked 20 basis points last week and this spike rippled through the bond and futures markets.  To understand its bearish implications, think of a Libor hike as a tax hike on homeowners and corporate borrowers.

Special Notes on the Food Crisis

One of the few special interests that love food crises like the current one is my clan of economists.  This crisis provides an absolute textbook case about how screwing around with the free market typically just makes things worse:

Consider first the effect of grain export bans.  Egypt, Vietnam, and Indonesia, among others, have slapped restrictions on rice exports.  Kazakhstan has halted wheat sales.  Malawi has suspended sales of maize.  And so it goes.  Export bans drive up prices in international markets for three reasons:

1. Available supply in world markets is reduced
2. Rising prices and the fear of shortages create demand over and above what it would otherwise because governments try to buy more grain to increase stockpiles.  Increased demand drives up prices further.
3. The ensuring panic creates “phantom demand” as traders order more than they otherwise might to insure order fulfillment in a supply constrained market.

Consider next the effect of export tariffs like in Argentina.  This effectively reduces the price that farmers can get in the marketplace.  Farmers plant less than they otherwise would, reducing supply.  This increases price pressures.

Consider finally the effect of export restrictions on inputs into the farming process like fertilizer.  China, for example, has slapped a 100% export duty on fertilizer.  This reduces prices to domestic producers who will produce less.  It increases fertilizer prices in world markets, which put cost-push pressures on final grain products.

Oh, and let’s not forget how subsidies to biofuels are putting upward prices pressures on everything from seeds and fertilizers to grains.

Madness, I say.  Madness….

QUICK TAKES

1. Whenever I want to read modern American literature, I don’t go for Hemingway or Faulkner.  I just take in Peggy Noonan’s column that is buried deep on the back pages of the weekend WSJ.  Nice little piece this week on why over half of America now doesn’t trust Hillary and what Barack is likely going to lose not because of his skin color but his inexperience.  Take it all in with a grain of salt as she’s a rock-ribbed Republican.  Still, she makes Ann Coulter’s purple prose look like it comes out of the Kindergarten bin.
2. And speaking of Hillary, she’s been the only candidate in either party to get it right on China – going after the People’s Republic of late on everything from human rights to currency manipulation.  So it is very troubling that all she gets for her truthsaying is the resignation of one of her top China hands, UCLA political scientist Richard Baum.   My guess here is that Baum was taking a lot of gas from his colleagues at UCLA’s Center for Chinese Studies, and its always hard to get an appropriately hard line from any academic operating out of such centers because of the funding imperative.   It would be nice if another member of Clinton’s inner China circle, Susan Shirk, stood up for her to offset this bad press.
3. See my letter to the editor in the weekend edition of the WSJ re: Greespan.  It begins thus:

 “The maestro doth protest too much. In fact, Mr. Greenspan's spirited defense of his legacy has more in common with revisionist history than two essential truths: He may legitimately be blamed for both the 2001 recession and the (likely) current recession, as well as the collapse of the tech bubble and formation of the housing bubble.”   Click here for full letter.

The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

Read it and Reap!

60 Minutes Alert: If you missed the April 6^th show, you can catch it on the web by clicking here.

This Week:  GE Whiz That Hurt

Last week, I noted that the U.S. markets had pulled off the Houdini of a strong technical bounce in the face of an ever-tightening fundamental stagflationary squeeze.   As it has now turned out, this may be one of the shortest bounces in recent stock market history.

The technical bounce got absolutely crushed by bad news from the bell weather General Electric, which suffered one of its worst one stay stock price losses in its entire history on missed earnings and lowered guidance.  Given that GE is almost its own ETF for the U.S. economy, this news hit the markets very hard.

Where does this leave us?  From my macro perspective, the U.S. markets remain in a downward trend that will be very difficult to reverse and even more difficult to trade on the long side.  Cash continues to be a good place to park your bucks – unless you are really good at picking biotech stocks, which are largely outside the business cycle bear hug.

More broadly, I continue to be amazed by the parade of ominous signals emanating from seemingly all parts of the globe.   Oil topping $112 bucks and $4 a gallon summer gasoline on the horizon.  Airlines dropping like Chapter 11 flies.  Spain forced to import water because of record drought.  A billion of the world’s poorest facing starvation as food prices spiral upward and many food-producing countries slap on export restrictions.  Iran moving full speed ahead on uranium enrichment.  Rising risk spreads signaling a resurfacing of worries over a world credit meltdown.  Mugabe thugs in Zimbabwe making a mockery of democracy.  A young punk Iraqi mullah studying Allah knows what in Iran unleashing yet another wave of violence killing U.S. soldiers and exposing the surge’s feet of clay.  Tens of thousands of high-paying Wall Street jobs turned into pink slips.  Las Vegas dying on the recessionary vine.  Consumer sentiment at a 26-year low.  It goes on and on.

QUICK TAKES

1. Yet more hate mail from the Obama-ites over my latest oped on the “unity ticket.”  Click here to read it.  It’s damn comic irony that these Obama zealots hurl the worst sort of epithets my way in praise of a candidate they describe in the same breath as a facilitator, unifier, and master politician.  And by the way, if you want to ready my memoir about being in San Diego politics, click here.  It’s yet another freebie from yours truly.
2. Now here’s some more stuff for you Obama-ites to chew on: John McCain just absolutely crushed both Hillary and Barack on American Idol.  Each had 60 seconds to address the largest TV audience this side of Beijing.  McCain was just very warm and funny and loose.  Meanwhile, Barack eyes darted back and forth like a hamsters as he read his teleprompter – lose that thing Dude and start speaking from your real heart and not the scripted one.  As for Hillary, she was, in Randy Jackson’s lingo, “just all right dog.  Nothing special.”   And you don’t think this matters?  Guess again.  If McCain gets charisma, the Dems are up the creek without a war hero.
3. It’s tax week, and America’s pain is going to be considerably amplified as people try to pay the IRS out of dwindling bank accounts.  Look for that to show up in the May economic data as yet another bearish force.

This article appeared in the Providence Journal Tuesday, April 8, 2008

Tuesday, April 8, 2008

IRVINE, Calif.

I WAS BARACK OBAMA before Barack Obama — sort of. My strong advice is that he should graciously embrace a “unity ticket” with Hillary Clinton at the top and himself as the vice-presidential candidate. The likely alternative is a McCain victory — and the ritualistic Republican gutting of a once promising politician.

My own “Obama experience” occurred in 1992, when, as a whiz kid, I ran for mayor of what was, then anyway, the sixth largest city in America — San Diego. Like Obama, I was a gifted orator who could stir a crowd. Like Obama, I had a Harvard pedigree and was full of new ideas. Like Obama, I also had a horde of grassroots supporters who could swarm precincts all over the city.

However, like Obama, I had never run much of anything, especially a major city. Like Obama, I was more prone to mistakes than most seasoned politicians. Like Obama, some of my positions were simply too liberal for the mainstream. Nor had I been fully “vetted” politically, which is to say there were yet some skeletons in my closet.

My own election result was what the writer John Barth might have described as a “paradigm of assumed inevitability.” As the white knight running against a gaggle of shopworn politicians, I decisively won the primary election and emerged as toast of the town. However, by general election day in November, I was toast.

What did me in is precisely what will do Obama in: Youth and inexperience flying headlong into the Republican meat grinder and spin machine. As a result of the mountain of mud thrown at me, almost half the city hated me by November while even some of my own staunchest supporters were disillusioned. I not only lost the race (albeit by a few percentage points). My once promising political career was effectively over — all because I reached too high too soon.

These same perils await young Barack and are precisely why a “unity ticket” offers the best long-term path for his political career. As the VP candidate, much of what the Republicans can throw at him, particularly on the experience issue, simply goes away, while his running mate Clinton has taken every possible hit they’ve ever thrown at her and remains standing tall.

Equally important for the strategic calculus, [FOR FULL ARTICLE CLICK HERE OR CUT AND PASTE http://www.projo.com/opinion/contributors/content/CT_navarro8_04-08-08_GE9BDVR_v22.39d82fc.html

The Well-Timed Strategy

Economic & Stock Market Analysis for the Discerning Investor & Executive

www.peternavarro.com

Read it and Reap!

60 Minutes Alert: Please tune it to 60 Minutes this Sunday for a very interesting segment on sovereign wealth funds.  If you miss the April 6^th show, you can catch it on the web by clicking here.

This Week:  Don’t Fight the Tape

The tape is telling us that the major U.S. market indices are now in a clear technical rally.  It is not exactly clear as to why this is happening, but both the DOW and QQQQ are technical-indicator longs while SPY is moving close to the long side.  (A technical bounce for the dollar is perhaps helping.)

This is the kind of technical rally you should feel free to trade IF your horizon is relatively short.  However, the emerging fundamental situation seems just too bearish for there to be a sustained upward trend.  Consider that:

1. The U.S. economy continues to slow and the situation of consumers continues to deteriorate
2. The Japanese economy has begun yet another retreat
3. Inflation is a significant problem in the eurozone that is constraining the ECB from cutting interest rates as economic woes mount.
4. Global cost-push inflation in the form of fuel and food price shocks continue to take their toll both economically and in terms of increased political instability.