Saturday, November 16, 2013

Year of Misdirection

What we are seeing is money funneling from the financial assets which are bonds and commodities into equities.  I believe we have seen 90% of the move, and we'll soon see investors shunning equities again.  There will be no great rotation from bonds to equities, because the countries with the most financial assets: U.S., Europe, and Japan are aging.  What you are seeing in 2013 is a  huge fakeout in the financial world.  Because of fears of Fed taper, and a strong bull market in stocks, investors are getting out of bonds and going into equities.  That is a huge mistake.

I don't look at day to day economic numbers to determine my view of the market.  I look at the big picture. I see a "recovery" that is 5 years old and we've yet to have any meaningful economic growth that wasn't a reversion to the mean (i.e., 2009 and 2010).  Now that we've had the bounce back from the financial crisis, you have no economic acceleration.  Logically, how can the economy grow when there is little job growth, little wage growth, and all the money is going to the rich?  The rich don't need to spend more money, they have everything they need, isn't one Tesla enough?  Isn't one yacht enough?

There is an aging, slow growing population in developed economies, there is not any sound economic growth in the emerging markets (China is a real estate disaster waiting to happen), and financial assets have risen substantially for 5 years.  There is no pent up demand.  You have used up the low interest rate/refi bullets.  There is no appetite for government stimulus.  It is all up to the central banks, and they have manipulated interest rates to near maximum potential.  Unless the Fed goes into QE overdrive and drives long term rates to a Japan like 1%, you have taken up all the benefit from lower interest rates.  Corporations have issued a huge number of bonds to lever up their balance sheet to buyback their own stock.  They are not investing in the future, they are just managing their balance sheets.  You have a slight uptick in economic activity due to the wealth effect from a surging stock market, which is not sustainable long term.  That is a not a recipe for economic growth.  It is a recipe for a boom that will soon turn into bust.

Yet, in this kind of environment, investors are piling into stocks because of the huge outperformance and don't want to be in bonds because of the potential Fed taper.  Well, Fed taper is probably 90% priced in, and the equity market will have a taper tantrum when it does arrive, which will limit the taper from $85B to around $75B and remain there for a long time.  That to me is still very bullish for bonds.  And with little economic growth, despite the remaining QE, equities become extremely vulnerable to a potential recession, which I don't see many people predicting.  At these valuations, a recession takes the S&P to 1500 easily.  I am bearish for 2014, but given the uptrend, we will need to chop around for a few months before the trend changes.  Thus, I am predicting a flat and choppy 3-4 months and then the beginning of a new bear market.


Anonymous said...

I have a scenario in mind for this week.

- HSI leads the way. HSI surges up, on the back of positive sentiment towards reform. STOXX and SPX creeps up along. This scenario is subject to market response to SHIBOR (which is again spiking up) and Chinese PMI (to be released this Thu).

Any thoughts?

Market Owl said...

HSI is like a half China, half Europe index. I am bullish on neither at the moment, and I did see the surge in the China H shares futures in after hours after the announcement about the 1 child policy being eliminated and market reforms.

Investors have been burned so many times with Chinese equities, that the strong inflows won't be there again for years, like gold. This looks more like short covering in the HSI rather than investors rediscovering China and piling in.

I would rather be shorting on Monday than buying.