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Friday Market Update 10/28/2011

Blog Oct 28, 2011

Good News, the US troops will be out of Iraq by the end of the year after nine long and costly years. I mean this in terms of lives and dollars. Bad news, many veterans are coming home to bleak job prospects with unemployment remaining stubbornly high and seem to gravitate to the “Occupy Wall Street” protestors. Unfortunately there was a clash with police in Oakland California this week and one of those war veterans ended up in critical condition. We wish him a speeding recovery. The movement continues to pick up global steam as the divide between the socioeconomic groups continues to be more apparent.

A new report out by the CBO (Congressional Budget Office) shows that the top 1% of households saw their after tax income increase by 275% between 1979 and 2007. That was more than quadruple the growth of the rest of the top 20%. The 60% that make up the middle class saw their income grow almost 40% (it would probably look worse than that today) and the bottom 20% only saw an 18% increase. They say that the exact cause of the rapid income growth for the richest Americans is unclear, but they sight the growth in the financial markets as one of the possible causes. Gee, I wonder if the removal of Glass-Steagall in 1996 and the subsequent ability of banks to create and place really big bets, and take really big pay outs on those bets, had anything to do with it?

Amongst all of this unrest, it is no surprise that consumer confidence is down to the lowest level since 2009. But amazingly, consumer spending is up, growing at a 2.4% rate after slowing to .7% in the second quarter. Clearly that spending was not on homes, with pending home sales down, much of that spending came from car sales and corporations spending on equipment and software. Let’s hope this leads to jobs since jobless claims, though down a tad to 402,000, continue to keep the unemployment rate above 9%. Since consumer spending makes up 70% of our GDP, (the value of all goods and services produced) we need everyone to spend, spend, spend in order to generate more tax revenues and help create the inflation the Federal Reserve so desperately wants. I suppose 2.1% core inflation (garbage number because it removes food and energy) is not quite enough. (By the way it only takes 4% inflation for 17 years to cut the value of the dollar in half).

I cannot tell you how relieved I am about Greece’s creditors agreeing to take a 50% loss. Of course the taxpayers will eat the other 50%, but at least it does not trigger a CDS (credit default swap) default. Almost no one understands why this is important, but you need to, since ignorance does not make you immune, it merely leaves you vulnerable and derivatives (such as CDS’s) leave us all very, very vulnerable. I just did a blog on derivatives in our FDIC insured banking system, which I think is a must read. Here is the link http://www.itmtrading.com/blog/2011/10/occ-report-on-derivatives/.  In a nutshell, if an official default were triggered it would generate many trillions of dollars in losses throughout the global banking system. Global credit markets would almost instantly freeze and it is likely that central bankers and governments wouldn’t have the ability to create the level of debt needed to inject enough money into the system. This is why the Greek debt issue is so important even though it is relatively small compared to Italy and Spain, as witnessed by the chart below.


But it’s only a Greek issue today. Next year Italy, will have to roll over $345 billion in bonds. And even as the EU agrees to expand the EFSF and fund it with $345 billion and then plan to sell derivatives (bets) to China and the IMF creating even more leverage (debt) to fund the EFSF with 1 trillion euros, there isn’t enough unallocated funding to support that rollover should the need arise. Remember, it isn’t just the $345 billion at risk, it’s more about the CDS default that would trigger a global banking implosion, like they are battling against now. Call me crazy, but I have never experienced solving a too much debt and leverage issue by adding more debt and leverage. And if China and the IMF agree to take those bets, you have to know that is primarily to gain more control over the fiscal choices the members of the EU make.

Of course China has issues as well. As their export economy has been slowing, thanks to the global slow down, their internal growth seems to be slowing as well. Inflation is running over 6% a year and banks have been forced to put aside larger loan loss rations, cutting into bank profits. In fact, Fitch Ratings estimates as much as 30%, or $2.46 trillion, of China’s banking loans are likely to become “nonperforming.” Could the popping of China’s real estate bubble be at hand?

I have to put a disclaimer in here as we move to see the impact on the markets this week? You need to know that I am not in the office on Friday this week, but I will be back on Monday. Therefore, the charts are from Thursday. With that said, let’s take a look.

The stock market loved that the creditors of Greece agreed to take that 50% hair cut and France and Germany have tentatively agreed to commit to lots more debt. The Dow moved up 339 points today and moving above 12,000 for the first time since July. Is everything hunky dorey? Are stocks now in a bull market? Nope, but if you’re a trader, you had a good week. You might notice that the top resistance level on the Dow is roughly 12,300, so we shall see if the markets will give us a close above that level. The 50 Day moving average remains below the 200 day moving average, but the shorter term moving average has turned up. Again, we shall see what next week brings. Personally, I am not buying into this rally, but it could be a great idea to sell into it.


So if money flew into stocks, where did it come from? How about the dollar? The chart below shows you that is where much of the wealth came from. With a very steep drop of 1.22 basis points, it appears that the markets are risk on, moving from cash to stocks. In addition, the dollar broke support and is testing a lower support level. Next week will tell us if it will stay within a trading range or break that next support level. In addition, it seems as if the 50 day moving average is likely to cross back below the 200 day moving average. We’ll know more next week.


A bunch of that wealth also flew to the safety of metals. Smart money knows that the more debt and leverage, the more risk. They also know that a boat load of fiat currency will have to be created from debt to paper over this mess and that means inflation. Since we continue in the race to debase, smart money is protecting their purchasing power with physical gold and silver. Traders use the digital markets. In either case, this was a good week.


So that closes a short week for me. Thanks for understanding and be safe.

Lynette

Thumbnail Photo We believe that everyone deserves a properly developed strategy for financial safety.

Lynette Zang

Chief Market Analyst, ITM Trading

Sources & References In This Article

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