The Stock Market


A Bad Hair Day for Stocks

About one month ago we wrote two updates on market sentiment in close succession, one of which included a money supply update as well (see: “Boundless Optimism in the Stock Market” and “Market Sentiment and Money Supply Update” for details). On this occasion we pointed to an unusual spike in the OEX put/call ratio, commenting:


“[...] if a warning signal is legitimate, it usually has a certain lead time (two to four weeks). It is impossible to tell in advance whether it warns merely of a run-of-the-mill correction or of something worse”


This is still applicable of course, and we can now state that the lead time was indeed approximately four weeks in this case.  Apart from the past few days of trading, the market at first continued to levitate, teflon-like, unimpressed by any and all possibly worrisome data points. Wednesday's GDP data release, while superficially strong, owed 1.7% of its 4% annualized growth rate to inventory building, so it was probably widely discounted as another so-so report. The release of the Chicago PMI , which tumbled to a one year low in its biggest monthly drop since October 2008, immediately contradicted the happy GDP data anyway. Initial jobless claims rose fairly sharply from one small number to another small number, and are only worth mentioning because the stock market tends to be inversely correlated with them in the the long term.

As so often, it is difficult to identify what actually triggered the sudden selling squall, because lots of things appeared to be happening at once, or at least in very close succession.

Among these is the attempt to pressure Russia into abandoning the Eastern Ukrainian rebels by means of sanctions, so that Kiev can slaughter them more leisurely, and above all, more cheaply. Unfortunately, and predictably, the sanctions toll is already hitting Europe, especially Germany – see this graphic we recently posted. Things keep getting worse, as listed companies are beginning to post earnings disappointments they blame on the sanctions.

The problem is not only that there is already a highly visible economic toll, but in spite of the fact that Russia's economy is under a great deal of pressure as well, Putin remains equally predictably completely intransigent and is now threatening to use the economic levers Russia has at its disposal. According to press reports, he intends to use WTO rules to push these measures through (such as altering the prices on long term gas contracts).

As we have previously remarked in this context, sanctions are just bad for business. They never harm their real targets, namely the political ruling elite of the targeted  country. Quite on the contrary, Putin has experienced a big surge in domestic popularity.


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Challenges and Extra Points

On Friday, the Dow fell 123 points. On Saturday, our youngest son, Edward, returned from Africa. He had escaped capture by a rebel army in the Democratic Republic of the Congo… walked 50 miles through the jungle… and eventually made his way to the US embassy in Kinshasa, where he was given a new passport.



Statues of the two symbolic beasts of finance, the bear and the bull, in front of the Frankfurt Stock Exchange

(Photo credit: Eva K.)


As to the Congo, Edward reported to his grandmother: “Rich country (in natural resources). Hard place to do business. The local people are nice. Until they decide to kill you.”

Grandmother: “Why would you want to do business there?”

Edward: “Because it’s there. It’s a challenge. It’s an adventure.”

Grandmother: “You don’t get extra points in life by doing things that are not worth doing.”


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Gold Corrects, But Speculators Hold Fast

We recently commented on the commitments of traders in gold, arguing that the data indicated a near term correction in gold was likely. This correction has subsequently happened, and has so far held above the crucial technical level of $1290. Interestingly, speculators have only relinquished a small amount of their net long position in gold futures (less than 10,000 contracts last week), a sign that there were not only speculative sell stops in the market, but also new buy orders at lower levels.

We take this as a good sign, because growing speculative interest is a sine qua non for a strengthening gold market. As noted on several previous occasions, our view of speculator activity in the market is a bit more nuanced than the interpretation one usually comes across. Specifically, while a large and growing speculative net long position certainly increases the risks of a correction, it is not true that it is bearish per se. It can become a potentially bearish datum at extremes, but the current position is still far from extreme. For gold to rally, speculators must become more bullish and increase their net long exposure.

Readers who have followed us for a while will recall that we were worried last year about the growing gross short position held by large speculators in the gold futures market, which we interpreted as a bearish datum. The current large speculator gross short position is still fairly extensive historically at over 57,000 contracts, but it is no longer at the in our opinion far more worrisome 90,000 contracts seen on several occasions in 2013.

After correcting sharply in the course of two trading days (by sheer coincidence in parallel with the Fed chair's testimony, during which gold always seems to correct), gold has apparently established a foothold above the $1300 level. Unfortunately we cannot know the main motives of the buyers. If they are mainly motivated by geopolitical events, then there is a danger that gold will sell off again once those short term triggers disappear.

Note that geopolitical events are not a good reason to buy gold, unless one happens to live in the country where such an event takes place (as one is then able to bribe border guards and has wealth in highly portable form). Only if war triggers an inflationary policy – such as was the case with the Iraq war and the Vietnam war – can one regard negative geopolitical developments as relevant for the gold price. This frequently happens, but the current events seem unlikely to have any effect on US monetary policy.


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Fairly Priced?

US stocks dropped on Thursday, after news broke that someone shot down a Malaysian passenger airplane over eastern Ukraine. Then came the report that Israel had ordered a ground assault on Gaza. The Dow lost 161 points. Gold shot up $17 an ounce.

This comes only days after the Princess of Peace, Janet Yellen, assured investors that most stocks were fairly priced. We don’t doubt that she was right. Prices are set by willing buyers and sellers, operating on the basis of what they know at the time.

What they knew on Wednesday was that Yellen had their backs. Thursday, they weren’t so sure. Friday’s another matter




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Outlook for Gold, Stocks, Economy by Incrementum’s Advisory Board

In March, we released the minutes of the first Advisory Board meeting by Incrementum Liechtenstein, see the summary Will Inflation Make A Comeback In 2014 When The Consensus Worries About Deflation

As discussed, Incrementum had launched the “Austrian Economics Golden Opportunities Fund,” a fund that takes investment positions based on the level of inflation based on their proprietary “Incrementum Inflation Signal.” Incrementum Liechtenstein has Ronald Stoeferle, author of In Gold We Trust, as managing partner, and Mark Valek as partner.

The key topics that were discussed at the time:


  • The Incrementum Inflation Signal started showing rising inflationary momentum after a period of 19 month of disinflation.
  • The usefulness of the CPI as a decision making tool is highly questionable.
  • Incrementum’s Advisory Board sees a lot of strength in the gold market.
  • Is the stock market topping or in a bubble?


Not much later the inflationary trend stalled and a new disinflationary trend started, leading precious metals and miners to lower prices.

Meantime, the second Advisory Board meeting has taken place, in which all relevant and important topics for gold investors have been discussed.The economic situation and China in particular, a monetary policy update, the geopolitical situation, a stock market review, and precious metals and miners market update.


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Looking for Value

Editor’s Note: At the Diary, we are big on value. Bill’s motto is “buy cheap.” And someone who knows where to find value in today’s generally overpriced markets is Dr. Steve Sjuggerud, editor of Stansberry & Associates True Wealth Systems.

If you think there is no value out there … think again.

In today’s edition – originally published in the June 30 issue of Daily Wealth – Steve reveals the system he uses to identify global value … and why the cheapest stocks in the world are outside the US.


What’s Cheap in the World Today? by Dr. Steve Sjuggerud, Editor, True Wealth Systems


You probably haven’t noticed, but boring government bonds are up double digits this year. US stocks continue to push to all-time highs as well. Even Europe is soaring to multi-year highs. Today, we’ve got uptrends around the globe. The big question is:  after so many investments have run up so high,  where is the value in the world today? Is there any left out there? In short, yes!

Let me show you exactly where the value is right now. There are dozens of ways to size up what’s cheap. One classic measure of value is the price-to-earnings (P/E) ratio. But like most value measures, it isn’t perfect on its own. To fix that problem, we built an in-house value indicator for a few dozen global markets. We call it the “True Wealth Systems (TWS) Value Composite Measure.”

These TWS Value Composite readings give us a simple way to see where the value really is in the world. And today, there is a clear winner. Let me show you what I mean by looking at a few major developed countries’ stock markets.

The table below shows each country’s historical premium or discount relative to its own history, based on our TWS Value Composite. In addition, it shows each market’s premium/discount to U.S. stocks – the benchmark for comparison for developed markets.


table-1Developed markets compared – via True Wealth Systems

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Controlling the Dice


“Untergang der Titanic”, conception by Willy Stöwer, 1912


Not much market action on Friday. With a VIX reading of just under 11, a remarkable tranquility has settled over the markets – like the calm seas in the North Atlantic when the Titanic set sail.

“Not even God Himself can sink this ship,” said its architect. In the event, it was sunk by an iceberg. God claimed no credit nor took any blame. We humans can never hope to know the truth. Even in science we never know whether something is true or not. All we know is when something isn’t true.

We test it. If it doesn’t work, we know the premise was false. We mock it and ridicule it. We tell the poor sap who believes it: Good luck with that! We know it won’t work. Even when something does work, we still don’t know the premise behind it is true.

“Here… I’ll prove that I can control the dice,” says a lunatic.

“I’ll throw them four times… and each time I’ll get snake eyes.”

He rolls the dice. If he fails to get snake eyes each time you know the premise was false. But what if he succeeds? Is it true that he can control the dice? Or is he just lucky? You don’t know.


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An Overabundance of Confidence

When looking at the charts of individual stocks, we find many that “look good”. This is undoubtedly one of the market's main saving graces. The problem with this is of course that charts always “look good” until they suddenly don't anymore. Shortly before the crash of 1987, to name an extreme example, the charts of many stocks, as well as those of the indexes, also looked good. There was very little in the technical backdrop that indicated that things would change radically and go totally pear-shaped in the space of just one week. And yet, this is what happened. The only warning provided by the charts was that the market suddenly and inexplicably became extremely weak in the week prior to the actual crash day.  It put in a lower high on that occasion, which by itself is also not an entirely reliable sign that things are about to go seriously awry.

We are only using this example to illustrate that there is sometimes more to the situation than just the message provided by the charts. Normally, charts will deteriorate slowly enough to provide plenty of warning that the technical underpinnings of the market are weakening – but this is not always the case (it did happen in late 2007/early 2008, but even at that time, the message was for 'mixed' for quite some time. For instance, the DJ transportation average made a new all time high in May of 2008).

Anyway, in order to gauge the market's temperament, or at least the effects of the most widely adopted belief system, we can also look at quantitative sentiment data, and since a few remarkable things have happened on that front lately, we are providing a brief update. As to the “belief system” adopted by most market participants, it is the sheer boundless faith in the machinations of central banks. We happen to think that relying on these bureaucrats is dangerous, regardless of the fact that is has obviously “worked” for a good while now. It is the modern-day variation of the “potent directors fallacy” – the belief that a handful of powerful people can actually stop the market from expressing itself in an untoward manner. There are countless historical examples that show this belief to be erroneous, with the 2008 dislocation being the most recent one.

We regularly look at put-call ratios and the like, and came across a rather remarkable combination of data last week. The equity put-call ratio declined to its lowest one day reading in several years last week, while almost concurrently, there was the biggest spike in the one-day reading of the OEX put-call ratio in at least 20 years (we cannot tell for sure if it was a record high, since we are only able to consult data going back two decades). At the same time, the VIX (which measures volatility premiums paid for SPX at and near the money front month options) has declined to below 11, which is roughly in line with the lowest values seen in 2007:


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The Dumbest Plan Ever

We are still reeling. Yesterday, we reported that central banks are major buyers of stocks. Their policy of suppressing yields on bonds has pushed them to stretch for higher returns in the stock market.

A recent report by a central bank research and advisory group called the Official Monetary and Financial Institutions Forum (OMFIF) calculates that central banks around the world have lost out on $200-250 billion in interest income on their bond portfolios.

In other words, central banks are victims of their own depressed interest rates. Feeling the pinch, they move more and more of their portfolios into equities.

The OMFIF says “global public investors” – including central banks – have increased investments in equities “by at least $1 trillion in recent years.”

And we could still be in the early innings of the game. Private investors, deprived of a decent return on their savings, buy stocks. Corporations borrow from the banks to buyback their own stocks. Central banks also buy stocks. Stocks go up.

Seeing what a success they have made, they all buy more! Has any finer system ever been developed to manipulate the stock market? Has any dumber plan, more doomed to disaster, ever been devised?



Quarterly stock buybacks, via Factset – click to enlarge.


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Nothing Bad Can Happen …

The Dow fell 21 points on Tuesday. Gold was flat. Around the world, stocks have been doing well. Even our top recommendation, beaten-down Russian stocks, are moving up fast. The Russian market rose 14% in May (leaving it still down about 9% for the year). Why?

Maybe world debt levels hitting mega highs has something to do with it. Over $100 trillion was the last estimate we saw. Meanwhile, why worry? Volatility is ultra low. The VIX measures investors’ worry levels by looking at implied volatility in the options market. The index just posted its lowest monthly close since 2007.

Investors are not fearful. And not necessarily greedy, either. They are just complacent, sure that nothing bad will happen.



The VIX is stuck in the 'nothing bad can happen' range – click to enlarge.


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Youth Employment Plummets

Pity the class of ’14! News comes that students are defaulting on their loans at an annual rate of 11%. We’re surprised it isn’t higher. Fewer than half of Americans aged between 18 and 29 have jobs. Even among college grads, nearly half are jobless or underemployed. Hardly surprising, then, that as a share of national income, young people have less than ever.

Over the last 14 years, the number of Americans aged between 16 and 24 who have jobs has fallen by 18%. For most people, the unemployment rate is back to acceptable levels. But only because so many people are no longer included in the labor force participation numbers.

Retiring baby boomers account for some of the drop off. But there are also millions of young people who never seem to get a shot at gainful employment. Never getting on the ladder, they have no way to climb higher.


15-24-unemployment-vs.employment-annEmployment and unemployment rates for youth aged 15 – 24 compared. The unemployment rate, though still extremely high, has been declining – mainly because those who no longer bother looking for a job are no longer counted as unemployed. One may well ask: if they are not unemployed, what are they? - click to enlarge.


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A Strange Lack of Corrections

Corrections are normal features of stock markets. The current rally on Wall Street is an outlier. It’s seen an usually low number of corrections… and what corrections there have been were unusually mild.

From Andrew Lapthorne, a quant working at investment bank SocGen:


“The number of 1% down days for the S&P 500 in any given year has averaged 27 since 1969; the S&P 500 has seen just sixteen 1% down days over the last 12 months. It has now been 468 days since a market correction of 10% or more, the fourth longest period on record, and, as we show below, the annualized peak to trough loss has only been 5% compared to typical annual drawdown of 15%.”


The following chart from SocGen says it all. It shows the maximum peak-to-trough losses for the S&P 500 incurred over a one-year period going back to 1970. As you can see from the far right of the chart, volatility is far below normal.


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Stocks and Bonds -  One of These Markets is Wrong

If one looks only at the SPX and the DJIA, one would have to conclude that stock market participants firmly believe in the recovery story that is peddled far and wide. After all, these indexes have only just retreated from new all time highs. However, something doesn't compute in terms of the 'market message'. Small caps and momentum stocks (mainly tech stocks in the widest sense) continue to leak, and they have been the leaders of the bull market.

That is not the only problem though. 10 year treasury note yields have just dropped below the short term support level we recently flagged as 'vulnerable',  and they have done so with gusto, by gapping right through it. Here is an updated chart:


TNX-TYX10 year yields break support – if there is one thing that could be construed as slightly encouraging for bond bears, it is the fact that 30 year bond yields are slightly diverging, but that may be simply because they have been leading the march lower thus far – click to enlarge.


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Better E than P

When we turned the lights off on Friday, the Dow was hitting a new high. But US small caps and the tech-heavy Nasdaq are not faring so well.  We gave you a rare recommendation yesterday: Buy Russian gas giant Gazprom OAO (PINK:OGZPY).

Who knows? But with a trailing 12-month price-earnings ratio of 2.7, it looked like a Mother’s Day gift to us. By contrast, the US Internet sector appears to be a kiss of doom – the kind of smooch that would make your face itch.

Last time we looked, – the “river of no returns” – was trading on a trailing 12-month price-earnings ratio of 454 and had earnings per share of just $0.64. Compare that with Gazprom, with its P/E of just 2.7 and earnings per share of 106 rubles – or $3.

Put one beside the other: is almost all P. Gazprom is almost all E. All things considered, we’d rather have the E.


AMZNAMZN, weekly – click to enlarge.


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Momentum Stocks Keep Getting Crushed


RUT-SPX-NDX-SPXRUT-SPX ratio, NDX-SPX ratio – click to enlarge.


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