Successfully Distracted …

We can probably “thank” ISIS for having distracted everyone from the ongoing spy scandal. A new barbaric and powerful terrorist group the danger of which is blown out of all proportion by politicians and the media is no doubt a Godsend for the national security apparatus and the military-industrial complex. In fact, this reminds us that ISIS looks suspiciously like an artificial creation anyway, one that has at some point undoubtedly received assistance from one or more states.

In a previous missive (see “Equal Opportunity Spy-Fest” for details), we discussed an article in German news magazine Der Spiegel (which has by the way done some excellent sleuthing beyond merely reporting on the content of the Snowden files). The article at Der Spiegel inter alia mentioned occasions when representatives of the “national security” apparatus or government spokesmen speaking on its behalf were caught in blatant lies and noted in its conclusion:

 

“The next weeks and months will show whether democratic societies across the world are strong enough to take a stand against the unlimited, totalitarian ambitions of Western secret services — or not. The governments of the countries in question apparently did not have the necessary backbone. They knew full well that the kind of surveillance being undertaken lacked all democratic legitimacy. But they pursued the programs anyway, behind the backs of their electorates. It is now up to voters to defend themselves. It is up to us, whose data has landed as by-catch in the nets of Tempora. We must force our own representatives to defend our freedoms.

 

Our comment to this was:

 

“Shocker! They lied to the public! And now ‘we must force our own representatives to defend our freedoms‘. Apparently over at the ‘Spiegel’ magazine they have completely forgotten who’s who in the zoo. The secret services are not an entity apart from the State – they are part of it. The mirage of ‘democratic accountability’ is held up as a way out. But how exactly can one’s ‘representatives’ be forced to alter course? Surely no-one can be so naïve as the think that any of this can be ‘fixed’ by elections or mere protests. Too powerful and well-funded an apparatus stands behind these activities. It would be a miracle if anything changed; moreover, the couch potatoes can’t be bothered anyway. Those that have ordered and are involved in the spying are undoubtedly betting that the furor will die down again just as it did the first time around, and they are probably right. In the meantime, they will continue exactly as before. We’re willing to take bets on this. All that has really happened is that whistleblowers have been put on notice.

 

There is no reason to assume that this pessimistic conclusion needs to be reassessed. The Snowden revelations have had zero effect on the spying activities or the legal safeguards allegedly keeping them in check. So far, the main effect of these revelations was simply intimidation on a global scale.

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Actions and Consequences

October is coming. Excess liquidity is disappearing. And with the S&P 500 on a trailing P/E of 19.7, the index is fast approaching “sell territory.” Watch out.

We finished our series on investment theory last week. Now we turn to practical application. There are three parts to the investment world. The first part is Aristotelian, Cartesian, Pythagorean. It is a world of logic and calculations. He who calculates best wins.

The second part is Socratic and Emersonian. The investment world, like the rest of the world, follows moral rules. When you do something “wrong” you will pay the consequences.

 

Aristotle_Altemps_Inv8575-1-1024x533Aristotle, hewn in stone

 

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A Test of Broken Trendlines from Below?

The divergence between US and European stock markets which we discussed in late August continues to persist. This happens in spite of the fact that major European markets have been somewhat stronger than US markets in recent weeks, no doubt due to further easing by the ECB – which was first anticipated, and then became reality. In fact, the measures announced by the ECB “exceeded expectations”.

Below is an updated version of the chart we showed previously. Germany’s DAX and France’s CAC-40 have rallied back to their previously broken trendlines and appear to be turning down from there. If they fail to exceed the recent interim peaks, their divergence with the SPX will so to speak have been “perfected”. Note though that we have seen similar short term divergences between these markets before (it happened e.g. in the summer of 2013), so it remains to be seen if they are meaningful this time.

Even though one cannot be certain yet whether it is an important signal, it is something we are keeping an eye on, especially as all these markets are far more stretched to the upside than they were previously. We have picked the DAX and CAC-40 on purpose, because they are the stock markets of the euro zone’s “core” countries. Moreover, the DAX has been Europe’s strongest market, the only one that has managed to reach new all time highs since the 2008 crisis. To be sure, the divergence is relatively small at this juncture, due to the recent strength in European stocks. Obviously though, no-one is going to ring a bell and shout “this time it means something”, even if it later turns out that it did. So it probably pays to be aware of these things in good time. If the divergences are going to be invalidated, it is in any case likely to happen soon, as it would require only very little by way of an additional advance.

Another reason why these divergences may actually be more meaningful this time around is that a very similar divergence between SPX and HYG (an ETF serving as a proxy for high yield debt) has recently formed.

 

1-european-DivergenceDAX, CAC-40 and SPX – the former are still diverging from the latter and may just have put in a lower high right at their previous trendline support – click to enlarge.

 

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Gold Prices in 3 Waves, Silver Is Inexpensive & The Stock Market/Gold Relationship

 

 

Dan Popescu & Gary Christenson Dan Popescu & Gary Christenson

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AfD Wins Big In Another Two German State Elections

We recently pointed out that Germany’s EU-skeptic AfD party has the potential to become a serious political force (see “22% Can Imagine Voting for the AfD” for details). Over the weekend, two further German state elections in Thuringia and Brandenburg confirmed this assessment. In both elections, the AfD was by far the biggest winner, going from zero to 10.6% of the vote in Thuringia and from zero to 12.2% in Brandenburg. We prefer to refer to the party as EU-skeptic rather than simply “euro-skeptic”, although the latter is the label most often used in the mainstream press. While the euro-area’s sovereign debt crisis was the main motivation for the party’s establishment, its ideas had already come in favor among a growing number of people before the crisis. There merely was no party-political platform available to them previously – now there is.

Once again the Free Democratic Party was essentially wiped out in both states (which we believe is unfortunate), but the AfD also seems to have attracted voters from the left – from the Left Party in Brandenburg and the SPD (social democrats) in Thuringia. This is an interesting development, as the party is certainly not leftist in its outlook.

Although the party has gained a respectable percentage of the vote – beating e.g. the Green Party handily – it will be spared from taking part in a coalition government, as majority governments can be formed in both states without its participation and the establishment refuses to have anything to do with the AfD. We say “it will be spared” because experience has shown that being the junior partner in coalition can be deadly. The junior partner as a rule loses much of its base, which tends to be unhappy with the compromises that need to be made in order to join a governing coalition. The opposition role by contrast allows for the party’s stance to be pursued with the same undiluted vigor as before. Voters often see participation in coalitions simply as a way to gain well-remunerated posts by essentially selling out.

 

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That Tattered Flag

Yesterday, we took part in an “Ask Me Anything” session related to our latest book, Hormegeddon, on social news site Reddit. The format – the public writes in with questions and the interviewee (your editor in this case) answers them in “real time” – was new to me. So, many thanks to all those who tuned in. And many more thanks to all those who had cheerful words of encouragement.

One of the questions to come to us yesterday: What happened to our old, tattered “Crash Alert” flag? The answer is we had to take it down. The ol’ Black ‘n Blue flag had been up for so long – battered by wind, rain, sun… and trampled by stampeding bulls – that there was barely anything left of it.

It was becoming embarrassing. But it should be flying high again now… warning of the danger of a surprise bear market.

October is coming. And according to one of our favorite economists, Richard Duncan, the risk of heightened volatility is rising … as excess liquidity disappears from the marketplace. Beware.

 

 

tattered flag, unrec-newMaybe it will become a little less tattered soon …

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Lied Into War Again …

We cannot really call it “mission creep” anymore – president Obama’s “limited air strikes” against ISIS have become mission gallop, as within a few weeks, the war aims have continued to broaden so that a temporally limited air campaign has been transformed into a “war that could take years”. The continued insistence that it won’t involve ground troops is the next barrier that is likely to fall.

Readers may recall that we pointed out that all of this would happen in “ISIS and the Coming Escalation in Iraq”, posted on August 12. Admittedly, it was not exactly difficult to foresee this.

Originally, the air strikes were sold to the public as a humanitarian intervention that was required to save 40,000 Yazidis trapped on a mountain. We noted that saving the Yazidis could certainly be regarded as a positive side effect, but at the time we didn’t know it was actually a lie. Apparently the lie was propagated by the Kurdish government, as the Peshmerga were suddenly beginning to lose badly against ISIS. When the Pentagon realized that there were actually barely any Yazidis stranded on the mountain (in addition to this, it was reportedly not predominantly ISIS, but other Sunni neighbors of theirs that were attacking the Yazidis), it dropped the unnecessary rescue plan and decided it had to look for other things to do in Iraq. One by one new goals were added: we must protect Arbil. We must protect Baghdad. We must protect some or other dam. Until we have arrived at “ISIS must be completely eradicated”.

This progression was achieved by various means. As Robert Wenzel reports here, the video showing the beheading of James Foley has been analyzed by experts and essentially found to be a fake. This doesn’t mean that he was not killed – only that it didn’t happen in that video. However, the videos of the execution of US journalists were a key building block in whipping up the war frenzy, so they have certainly served a purpose. In addition to this ever more hysterical pronouncements about the threat ISIS allegedly poses to the “homeland” have been made – which fly in the face of the actual analyses undertaken by the intelligence community. According to Jason Ditz at Anti-War.com:

 

“The Department of Homeland Security has confirmed that US intelligence currently has no indications of any current planning by ISIS to actually attack the US homeland, and told Congress as much. That didn’t sit well with Congress, which insisted that ISIS is “the biggest threat to the homeland” irrespective of the lack of any evidence to that effect, and dismissed the DHS assessment that they are at most a “remote threat.”

 

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Abenomics Keeps Sputtering – What To Do?

We have frequently discussed the nonsensical attempt by Japanese prime minister Shinzo Abe and BoJ governor Haruhiko Kuroda to print and spend Japan back to prosperity in these pages. By now it is well known that devaluing the yen has not achieved the desired effect, but rather the opposite. Not only have exports not really received the expected boost, but Japan’s trade and current account surplus have decreased markedly, even posting negative numbers for the first time in decades. Of course, currency debasement never works: it cannot work.

 

 

1-Japan, current accountJapan’s current account over the past two decades.

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Investing Simplified

Still nothing much to write home about on Wall Street. No big selloff. No big boom. It’s late summer. US stocks are high and mama’s good lookin’ …

When we left off our series yesterday, we had run through the basics of the Efficient Market Hypothesis (EMH)… the reasons it is flawed… and how you can benefit from other investors’ mistakes.

Just do the math. When a stock is worth more than the market price, sell. When it is worth less, buy. When it is in between, just sit tight. There, what could be simpler?

 

security The Graham & Dodd classic on value investing

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We’ll Have to Add Them to the Endangered Species List …

 

bearThe kind of bad-ass bear that inhabits nightmares. You don’t want to meet this one when he’s in a bad mood

(Photo via badassoftheweek.com)

 

As we recently pointed out, stock market bears are a dying breed (see “Total Capitulation of the Bears” for details). The WWF’s official endangered species list contains only a handful of members of the family Ursidae, which range from “vulnerable” (polar bear) to “least concern” (brown bear). The Wall Street bear clearly is in a lot more danger.

What prompts this missive is news that yet another prominent bear has apparently given up. The thing is, this bear – Wells Fargo analyst Gina Martin Adams – wasn’t even a bear, but merely a somewhat reluctant bull, whose targets got taken out a few times. It is interesting from a psychological perspective that a not overly foaming-at-the-mouth bull is considered a “bear” by the financial media, a “famous bear” even. She has now recanted, and has apparently been preceded by several others. An SPX target of 1850 points apparently made her the “most bearish strategist” on Wall Street!

 

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Newsletter Writers Turn Very Bearish

This is a little addendum to our recent gold update. Shortly after we had posted it, Mark Hulbert published an article at Marketwatch regarding the recent moves in the Gold Newsletter Writer Sentiment Index (HGNSI). Note here that this sentiment measure must be seen in the context of market action. As we have pointed out previously, there have been a number of very significant ‘misses’ of this indicator, especially in early 2003 and early 2004, when following its message would have been a grave mistake.

However, there is also the fact to consider that today’s gold-focused newsletter writers are probably not the same bunch that was active 10 years ago. Many of those who were active in 2003 had survived a 20 year long bear market, so their collective judgment was at times actually quite good.

To Mr. Hulbert’s credit, we must concede that his indicator has worked better in recent years, and his interpretations of it in the course of this year have largely been on the mark. That’s actually a good thing, as the indicator is currently showing an extreme in negative sentiment.

Here is the chart:

 

1-HGNSIHulbert Gold Newsletter Writer Sentiment Index – currently it stands at – 40.6% – click to enlarge.

 

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Looking at the Big Picture

Step back. Look at the big picture. Stocks are near record highs. Investor sentiment has never been more bullish. The VIX, which shows the options market’s expectation of 30-day volatility in stocks, is near record lows.

But the US stock market – broadly measured by the S&P 500 – is “above the line” of our Simplified Trading System (STS). It’s trading above 20 times reported earnings. The index could go much higher. But our simple approach tells us that the safe gains are behind us. It is better to be out than in.

 

small-dollar

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“Conjuring Profits From Sub-Zero Yields”

 The above is the title of the recent Bloomberg article that discusses the ECB’s penalty rate on bank excess reserves (which as one analyst recently remarked have become the proverbial “hot potato” now that a 20 bp fine is charged for their possession) and its effects on bond markets. In euro-land, government bond yields have already completely collapsed, partly to almost Japan-like levels – and yet, more capital gains can still be achieved, even with paper sporting negative yields. According to the article:

 

“David Tan got to help oversee $1.5 trillion at JPMorgan Asset Management by picking winning trades. Now he’s studying how to make money from investments that look sure to lose.

Across much of Europe in the past year, the yield on two-year government debt tumbled from little, to none, and then below zero. That means buyers would walk away with less cash when the securities matured — if they waited that long.

Money managers like Tan are navigating a market where positive returns are still possible on debt with negative yields provided others will pay a higher price before the notes come due. Those opportunities were enhanced last week when the European Central Bank increased the cost for financial institutions to park their money with it. After that, depositors were tempted to take their cash from the ECB and funnel it intogovernment bonds, because the negative yields hurt less than the central bank’s more punitive charge.

“If yields continue deeper and deeper into negative territory, the opportunities for capital gains remain,” Tan, who is head of rates in London for the fund-management unit of the U.S.’s biggest bank. “If your central hypothesis is that yields are going to converge” with the ECB’s charge on deposits then you still see “some potential price appreciation,” he said.

The list of institutions that may choose to lose includes asset managers so large they’re willing to pay for their cash to be held safely as well as banks that want to avoid the higher ECB charges. And it includes many large financial groups like insurers whose rules are too inflexible to give many alternatives. At the top of the heap probably are other central banks.

Central bankers “are a fairly value-insensitive bunch,” Michael Riddell, a London-based fund manager at M&G Group Plc, which oversees the equivalent of about $415 billion, said on Sept. 5. “They have to invest their FX reserves somewhere if they want to buy euro-area assets that have the top credit ratings, then they have no choice.”

 

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A Test of Patience …

Actually, we are obviously not qualified to answer the question posed in the title of this post. We published an article entitled “Gold & Gold Stocks – Potentially Bullish Developments”, early last week which turned out to be particularly ill-timed. Both the metals and the mining stocks got whacked almost as soon as the proverbial ink on it was dry.

We hope that the overarching topic of the article, which was inspired by divergences and sector-internal relative performance data still made it worth reading. We are specifically referring to the ideas regarding how cyclical gold bear markets end, how early stage bull markets develop, and why there is a certain sequence of events that can usually be observed when that happens.

As to a sell-off starting right after we mentioned bullish developments, this mainly demonstrates that anything is possible in the short term. Luckily we did not neglect to mention potential negatives – after all, the future is always uncertain.

The gold market was ambushed last week by a very strong ISM report (which was so strong it strikes us as a contrary indicator), and the ECB’s assault on the euro, which helped an already very stretched dollar index to become even more stretched (the RSI on the daily chart briefly touched the 85 level last week). This has certainly introduced fresh uncertainties, as the dollar index is actually close to breaking through a long term resistance level.

 

1-DXY monthlyThe dollar index monthly. Close to besting resistance, and there is actually an MACD buy signal on the monthly chart now. Note also the MACD/Price divergence that was set up between 2005-2008. Interestingly, gold is tantalizingly close to giving a monthly MACD buy signal as well – click to enlarge.

 

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You’re Not Over the Hill If You Don’t Remember Any Hill …

Yesterday, we turned 66 years old. When did we get so old? We can’t remember. But 66 is still young. Everybody says so. Especially mother, who is 93, and our uncle, who is 96.

For our birthday, we went with Elizabeth to Le Dôme du Marais – a nice restaurant in the Marais district of Paris. It’s housed in a handsome round building that was once a pawnshop.

The pawnshop had been set up, explained the menu, by Louis IX to combat usury. In the days before credit cards, people could come to the pawnshop, rather than going to loan sharks, for their financing needs. Le Marais is a charming part of the city. Narrow streets. Ancient buildings. Chic shops. It is much more fashionable and cosmopolitan than our neighborhood.

At one table was a group of young professionals (perhaps in finance) – some from England, some Americans, an Asian… and others. It looked very much like a group you’d see in London or New York. At another table was a couple we took to be Scandinavian… or Russian. An American couple sat at yet another table but left early.

“That didn’t seem like Paris,” said Elizabeth. “It could have been anywhere.” Now, the small talk out of the way, let us return to our main subject: how to invest intelligently in an uncertain world.

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