Weekend Research Pt2

Posted on September 15, 2013September 15, 2013 Posted in Commodities, Demographics, Indicators, Macro, Stocks11 Comments

1. MORE ON CRUDE OIL

Here is a chart from Barry Bannister showing the impact of previous sharp moves higher in oil prices:

Source: Stifel

He suggests it is not the real oil price level per se but a ‘shock’ i.e. a big, fast move up in price that brings about a collapse in GDP.

Here is the nominal view of crude:

Source: FRED

From a technical perspective, the potential for such a swift rise is there, as crude has broken out of its triangular consolidation to the upside. A break above the 2011 high of $115, which is within reach, could be enough to produce the speculative spiral that has been behind previous parabolic rises.

Zooming in on the nearer term, a fairly messy range has developed over the last six weeks, with the contract buffeted about over Syria. With inventories still above historical averages it could be interpreted that there is a lack of appetite to buy higher than this range, and clearly there is a risk that this stalling in momentum gives way to a breakdown.

Source: Stockcharts

However, for now, the price continues to edge upwards and a bullish intraday reversal candle formed on Friday. So let’s see what happens this week.

2. DEMOGRAPHICS, TECHNOLOGICAL EVOLUTION AND CORPORATE PROFITS

What if exponential technological evolution more than offsets negative demographics? I.e. what if rising corporate profits thanks to technology-driven gains can spur the stock market higher, maybe exponentially higher?

Here are US corporate profits, which seem to suggest that could be happening:

Source: FRED

Now take a look at wages as a percentage of US GDP:

Source: Business Insider / FRED

The employment to population ratio has also fallen sharply. Companies are making more profits but employing less people and paying them less. Technology is one key factor in this: it is cheaper and more efficient for companies to increasingly employ tech over people. As we are concerned with the stock market, are the corporate profits what matter? Well, more unemployment and lower incomes means lower demand in the economy. Hence we have seen a consistent theme in recent earnings seasons of revenues disappointing versus earnings: companies not making profits through demand but through cost savings.

But now take a look at what has been to a large part responsible for the recent rises in corporate profits to all-time highs:

Source: Pyramis

It is the government defecit. Government ‘spending’ (stimulus programmes, cutting overnight lending rate to banks to zero, etc) has been the major factor since the 2008 crisis in pushing up corporate profits. Those corporate profits are real, but at the expense of increasing public debt. So the US government wants to cut back QE when it can, and facing the debt ceiling again – another ‘fiscal cliff’ – it needs to cut back spending and make savings. It also wants to keep rates low, ideally lower than inflation, to reduce debt servicing and shrink the debt, so current rising yields are a threat. Extracing from that Richard Koo PDF again, Japan only fell into deflation once it had fallen off the fiscal cliff, following an attempted fiscal consolidation.

Additionally, drawing together several pieces of research, it turns out corporate profit levels are only important in stock market returns over long timescales, e.g. a 10 year view. Sentiment is the main market driver in any one year, and p/es are the main driver if trading say on a 2-3 year timescale. By my work p/es are relative to demographics. A p/e of 20 is not expensive if the demographic trends are strong and positive, and vice versa.

So, I can now come back to the opening question of whether tech evolution can push up corporate profits and in turn the stock market, and offset weak demographics. Tech can enable cost-cutting but this can be at the expense of people, resulting in lower demand in the economy, so it’s not just a simple win, it cuts both ways. Furthermore, recent record high corporate profits are shown to be mainly due to a transfer of wealth (debt) from the Government, and the risk to future earnings is in Government action to cut back QE and savings to deal with the debt ceiling. But ultimately, corporate profits don’t matter so much for the stock market, only in long term investing. Sentiment can push the market one way or the other ‘irrationally’ before p/es and demographics come into play, before corporate profits.

In summary, I am still of the opinion that we do not have a new ‘secular’ bull market in stocks underway and that once ‘sentiment’ gives way, the collective demographic downdraft will help topple the economy and stock market. Action on QE and in response to the debt ceiling could be a catalyst for future corporate profit disappointment, which could help tip the sentiment. Crude oil, meanwhile, could do the job all on its own, if ‘some development’ provides the impetus for a speculation move into the commodity. Exponential technological evolution is a real phenomenon and I believe is ‘the great hope’ for humans to deal with the debt, resource scarcity, global wierding, demographics, overpopulation and other challenges. But I don’t see evidence that it can drive the stock market ever higher versus these phenomena in the shorter term.

Weekend Research

Posted on September 14, 2013 Posted in Bonds, Commodities, Currencies, Deflation, Demographics, Indicators, Macro, References, Solar Cycles, Stocks20 Comments

Time for a more in-depth post.

1. SOLAR CYCLES

By my work the secular (more accurately demographic or anti-demographic) asset class should be bid to a peak in a solar-inspired speculation blow-off close to the solar maximum, which for this solar peak should be commodities to round off a decade long (plus) bull market. If the smoothed solar max has passed and was Feb 2012 and the CCI commodities index made its ultimate peak April/May 2011 then neither should now be exceeded. If this turns out to be the case in hindsight, once the solar max has been agreed, then the commodities peak would have occurred 9 months prior to the solar peak and would within normal parameters to continue to validate the theory.

Source: Gary Tanashian / Stockcharts

If, alternatively, the solar peak is ahead late 2013 into early 2014 (which is SIDC’s second option, and also Leif Svalgaard’s prediction – shown below), then that 2011 CCI peak is too far away and if the theory is correct we should get another commodities peak closer to the solar peak, which would mean a higher peak in the CCI ahead. We have the possible seed for this in a fledgling CCI uptrend following a base established in July/Aug 2013 together with their historic performance as late cyclicals in what is possibly a cyclical topping process in equities occurring. However, this CCI uptrend is currently tentative, devoid of momentum and without broad participation thus far. The dips in oil and precious metals at the end of this week cast further doubt for now, but their drops coincided with money flowing back into equities. If equities are in a topping process then money should flow back to commodities in due course as they go outperform as late cyclicals. I would suggest the higher peak in CCI to be possible as speculative money pours in, under these easy money conditions globally. ZIRP and QE may not be able to generate growth but they can generate bubbles.

Source: Leif Svalgaard / WattsUpWithThat

If the first alternative turns out correct, and both the solar peak and commodities peak are behind us, then historically we have seen a new long term bull market in equities underway at this point, and the current easy money conditions could spell big momentum into equities (which would be the polar opposite to the second alternative of equities in a new bear and commoditites sharply rising, thus vital to call correctly). However, my demographic research shows that this is unlikely to be the case, at least not yet, as the positive demographic support for a new global secular stocks bull is absent. Indeed, the collective demographic trends of the major economies, bar Japan, are in an unprecedented collective downtrend.

2. DEMOGRAPHICS

This brings me to the question of whether central bank policy actions have been aggressive and potent enough to compensate for demographic headwinds. If that were to be the case then perhaps an enduring stocks bull and sticking economic growth could be achieved, albeit only whilst ZIRP and QE are maintained. I can very much recommend a read of the next link, which nicely summarises what QE can and can’t do and what Japan’s most-aggressive-to-date QE is likely to achieve:

http://www.scribd.com/doc/137092515/Richard-Koo-Quantitative-and-Qualitative-Easing-2013-04-16

In a nutshell, QE and ZIRP aren’t that potent as they cannot force people and companies to borrow or spend or invest. In the 1990s Japan tried to offset demographic downtrends with QE and ultra low rates and other stimulus tools. Even though most of the major economies were in demographic uptrends in that period (with booming asset markets and economies), this positive global environment AND these central bank actions were not enough to get people and companies to borrow, spend or invest.

I have overlaid the overall US demographic trend against Doug Short’s real US GDP growth chart here:

Underlying Source: Dshort

The yellow dots reveal that real US GDP is currently lower than any previous recession start point. I suggest this shows the relative impotence of QE and ZIRP, and would argue that the demographic downtrend which should be in place for the bulk of this decade, suggests that real GDP growth level should fall negative again in the near future and another recession kick in. The question is whether this occurs with or without the tipping help of a speculative rally in commodities.

Here is the same for Japan: real GDP growth versus overall demographic trend.

Underlying Source: Economonitor

By demographics, Japan should be able to nurse along positive real GDP growth for the next few years. It should also be able to succeed in stopping price deflation:

Source: Andrew Cates

Note that both should be feasible by demographics alone, without ‘Abenomics’. The demographic trends for Japan mean that we should see underlying growth, price stabilisation, and rising asset markets, which I believe will be touted as positive results of Abenomics when in fact largely written by the demographic change of trend.

3. JAPANESE EQUITIES

So is Japan a buy? Not all recent economic data has been supportive, but manufacturing and service PMIs are indeed in runs of positive growth, revealing underlying economic improvement. The Yen and Japanese bonds both dropped sharply following the launch of Abenomics but have since retraced some. However, the Yen now appears to have broken down out of a bear flag, whilst Japanese bond yields are shaping for a higher low and a potential push on from there. The Nikkei also consolidated following the big run up earlier in the year, but has now broken upwards out of two consolidation patterns shown:

The line you can see coming into picture at the very top is the 2-decade declining resistance, the containment of the long term bear. I believe a retest of this should be on the cards and I have decided to add to playing Japan equities on the long side. However, if US equities are in a multi-month topping process and soon to enter a new cyclical bear market, then I would not expect Japanese equities to go their own way, only rather to relatively outperform, which would mean decline less. Nonetheless, a new bull market in Japanese equities is belated relative to demographics and I feel happy here trying to make profits on the long side – expecting any downside is more limited than other markets – whilst still trying to assess where US and global stocks are headed. The supporting evidence for Japanese equities to rise should come in real GDP, real economic improvement, and indeed an underlying bid in Japanese risk asset markets. So I will continue to watch the data releases.

4. USA

So back to the US. Here is the latest picture for ECRI leading indicator growth:

Source: Dshort / ECRI

ECRI leading indicator growth fell beneath zero prior to each recession shown in grey. The break into the negative often historically occurred close to the stock market topping, with stocks typically being a leading indicator of the economy. We can see there have been several breaks beneath zero that did not give way to a recession, not least the fairly deep fall in 2011 that helped ECRI (incorrectly) announce a recession. However, my take on the current reading of 4.1 is that we should see this fall towards zero if we are to see a cyclical bear erupt in equities and a recession to occur ahead. This growth measure has been in a declining trend since early 2013, so to add weight to an equities top being formed, we should continue to see this dropping. For now though, this leading indicator, and other leading indicators (such as Recession Alert or Conference Board) point to continued economic growth into year-end.

Weak but sustained growth and low rates are typically a good environment for equities, which would be a framework for equities to move higher and reveal the consolidation since May as digestion in an ongoing cyclical bull. In supportive of this, the Nasdaq is now convincingly at new highs for this cyclical bull, and the Dax is back testing its high-to-date (which is also the all-time nominal high). If other indices break up and away from the ‘topping range’ then we would be looking to 2014 for a cyclical top as a multi-month topping process would have to start over. As noted in a recent post we have some evidence for a topping process in play since May, but also some normal signs missing. This should be resolved one way or the other soon.

5. COMMODITIES AND BONDS

Which brings me to the two main threats to the economy and the equities cyclical bull: excessive inflation from sharp rises in commodity prices and/or excessive tightening from rising rates in escalating bond yields. Bond yields in the major economies continue to rise albeit from low levels. If economic growth persists further and the Fed begins to taper QE then we could expect yields to continue to rise. Historically, the tipping point has been when 10 year treasury yields hit 6%, however today’s demographic and debt interest pressures mean that trouble level is likely to be lower.

Regarding commodities, the most important is oil, as quick major escalations in oil prices have historically correlated with tipping the economy into recession, due to its importance as an input in so many processes. Despite the slack and weakness in the global economy, crude prices have hung around the $100 level the last 3 years. A speculative move into this asset, for any number of reasons, could under current easy money conditions swiftly lead to $125 oil, which I believe would really test a demographically-challenged weak global economy.

On the flip side, the same demographic trends could further erode commodity demand and also limit the exit from bonds. Further commodity price drops, together with yields stabilising relatively low, would again provide the backdrop for equities to march on and economic growth to persist – unless the potency of the collective demographic downtrends drag the economy down into recession on their own.

If Martin Pring’s normal historic topping order is playing out, then we have seen the top in bonds already, we should now see evidence of equities topping and of a transfer in momentum to commodities which should make a peak last as the economy rolls over. This would imply yields and commodities rise despite demographics, and for my work this would be a better fit if the solar peak were still ahead at the turn of 2013/14, with commodities making a final and bigger peak in the months around that.

I believe evidence in support of or against this could become clearer as soon as next week, watching the markets’ reactions to the FOMC output. Some mild tapering is being widely touted as a done deal, but the size and the wording we don’t know. Regardless, I expect a big reaction in the markets and it will be telling how commodities, precious metals and the US dollar, fare afterwards. If commodities are going to make a final big rally then the tentative uptrend of the last couple of months should cement and a US dollar breakdown out of its long term triangle (see HERE) would be a great partner for such a development.

6. TRADING

We are over 3/4 of the way through the year and my PnL is currently showing my worst year of performance to date since going full time, due to the run against commodities longs this year, particularly precious metals. This would repair itself if commodities did begin an uptrend in the last couple of months and now continue into year end, but it could yet go worse if they are in a bear market since 2011 and have further falls ahead. So I have decided to use the Autumn to do what I can to make sure of a good result by year-end. This means I am going to add shorter term trading to my game in this period, whilst running the more medium-term-focused global macro positions. Short trades are something I’ve done before, but not for some time due to success (and personal preference) with the longer term methods. So, I just wanted to share with you that this is what I’m going to be doing different. I am looking for liquid markets that I can play more aggressively for quick gains. So I am looking for candidates amongst the major markets that I can play confidently repeatedly either long or short (i.e. fundamentals/technicals align in favour of one way or the other), and this will include increasing exposure if movement goes the other way. One such play-thing is going to be the Nikkei on the long side, as mentioned above. I am going to pour over some other markets (stock indices, commodities, fx) to find others that I consider suitable, so will share when I decide. You may disagree with my choices and indeed the method, but I’m just sharing what I’m doing, and will let you know the results.

One last thing. Almost all my money is in sterling and I am looking to transfer this to Euros, now I am in Austria. The EUR-GBP exchange rate has therefore become part of my daily watch. A one cent movement in either direction makes a massive difference when considering the amount I am going to be transferring and getting this ‘right’ is as important as my other trading, in terms of the impact on my wealth. So I’ll share my current thoughts, but if any reader is more of a regular in the FX market, please step forward and share your knowledge.

EURGBP has been in a large declining channel since the start of 2009, with the last 3 year snippet shown below. In July of this year the Euro tried to break out, as the Eurozone recovery became more apparent, but it turned out to be a fake-out, and recently UK economic data has surprised to the upside, which has helped not only turn it back down into the channel but also break down beneath the rising Euro support shown. The Pound is fairly overbought now versus the Euro and EURGBP spent last week trying to base. However on Friday there was a further breakdown in favour of the Pound, taking the pair beneath 84. The latest UK inflation data is out this coming week which should influence the pair one way or another, however I believe that ultimately the Euro can drop further here against the Pound, given the technical developments and the change in the fundamental backdrop, and I’m going to hold out for 82- at this point and will review.

Updates

Posted on September 11, 2013 Posted in Bonds, Commodities, Demographics, Indicators, Macro, Stocks23 Comments

Latest OECD leading indicator updates show a healthy picture globally. Emerging markets continue to trail advanced economies but the picture is improving for them. Macro economic data for China yesterday beat expectations and Chinese, Indian and Brazilian stock indices have all risen sharply in the last couple of weeks. Rather than advanced economies joining emerging economies in weakness, we have been seeing the opposite, with emerging markets beginning to join advanced economies in strength. This should continue forwards as evidenced in the overall G7+E7 narrow money leading indicator picture no longer showing weakening around year end:

Source: Moneymovesmarkets

Which brings me to the big question of whether central banks can offset negative demographic trends in the advanced economies, and this is the subject of a new paper from the IMF (click HERE to read, hat tip Gary). They conclude that demographics do indeed affect unemployment and inflation and central bank policy therefore has to be more aggressive and more unorthodox to offset this. Holding rates at zero and running large QE programmes could be deemed aggressive (in the former) and unorthodox (in the latter). If these actions and collective central bank actions across the globe have offset demographics ‘enough’ then we ought to see enduring strength in coincident and leading data. Regarding coincident data, US economic surprises have broken upwards and are strong positive (whilst emerging markets have been steadily rising and are now just beneath zero). This picture could provide the grounds for a reduction in QE at next week’s FOMC output.

If the Fed tapers, then we could see precious metals further punctured, the US dollar rise, and treasury yields jump further. The twin threats to the economy are rising yields and rising commodity prices, particularly oil. Yesterday the softer line on Syria produced a pullback in oil and precious metals, however the recent evidence has been for a shift in outperformance towards commodities and emerging markets, which would be in line with a cyclical topping process in equities. If I am correct about the cyclical top in progress, then we should see commodities quickly come back, regardless of Syria, and energy stocks and materials stocks lead the way in this new leg up in stocks. Below I show the SP500 and the last two cyclical bull topping processes. The new upleg we are seeing now in stocks should be contained within the boxed range, if this is a top.

Meanwhile on gold, the GLD ETF shows a fairly tidy picture. Either gold has been turned away at resistance in a continued declining trend, or it is shaping up for an inverse head and shoulder pattern with an obvious horiztontal support. Resolution one way or the other should occur soon.

Source: Stockcharts

The Nasdaq has broken out and the Dax is flirting with new highs. Marginal new highs would befit a topping process, breakaway would not. I still give higher probability to an overall multi-month topping process due to evidence recently presented (such as breadth divergence, transfer to late cyclicals, technical shaping), however if leading indicators stay strong and early cyclicals regain momentum or other such developments, then I would be open to cyclical bull continuation. However, I maintain that rising yields and/or escalating commodity prices are more-potent-than-usual threats to the global economy due to the particular demographic-related fragility. Strong leading and coincident data as we are seeing can push up yields and commodities, and this is what I expect to continue. Neither have risen enough so far to put the economy at tipping point.

Trading-wise I am sat on my hands at the moment. I await to see whether oil and gold can resume advances following yesterday’s puncturing. I believe equities can rise further towards the top of the range so do not yet want to take long profits or add to short positions. I await the FOMC output next week and more importantly the market’s reaction. I am also watching the US dollar for resolution.

State Of The Markets

Posted on September 2, 2013 Posted in Bonds, Commodities, Currencies, Indicators, Macro, Solar Cycles, Stocks36 Comments

Is this a cyclical top in equities, the end of the bull market since 2009? If it is, then by the normal topping process, bonds should have topped, stocks should be making a topping range over several months, and commodities should take over and top last, if we are to comply with historic norms. On the below chart the CCI commodities index is in green, the MSCI world stock index in orange and 30 year treasury yields in red.

Source: Bloomberg

Treasuries look like they topped in mid-2012 (yields inverted), and if equities are topping out then I have extrapolated how I see things should unfold. A completion of the topping range for equities, with at least one more rally up, and that rally being weighted towards late cyclicals, such as energy producers and basic materials companies, as commodities themselves outperform, to ultimately make their top as the economy tips over.

The next chart shows a longer term picture of the CRB commodities index versus the SP500. I have highlighted the last two cyclical tops, showing the multi-month topping price ranges in boxes and the lagged commodities peak in both cases shown by the lines. We potentially have the first half of a topping process on equities now, evidence for which I will detail next, and we see the commodities index tentatively turning up.

So let’s look at typical cyclical topping features. On US equities we saw a peak in May and then a marginally higher high in July, but on breadth divergence, which is one such sign. Below are two breadth measures showing the divergence (the Summation Index on the 2nd chart):

Source: Cobra

Source: Stockcharts / DecisionPoint

We should also see the batton being passed from early to late cyclicals in the process. As yields rise, interest sensitive groups start to underperform. Below I have compiled two early cyclicals: Homebuilders and Technology sectors, versus two late cyclicals: Energy and Basic Materials sectors:

Source: Bloomberg

We can see that since the start of the year Tech has performed flat whilst Homebuilders have been on the decline since the May peak. Energy has taken over, but Basic Materials have not yet joined. Drawing in other early and late cyclical sectors, the overall picture is one of a shift from early to late sectors to some degree, but tentative. I would like to see a more compelling shift develop to add futher weight.

Also in a topping process we typically see 90% distribution days and a shift from stocks making new highs to stocks making new lows. We saw such a 90% down day last week, but do not see strong evidence of a shift to percentage new lows.

Other historic norms in a topping process are a tightening of rates through bond yields (check) and excessive inflation developing. We do not see excessive inflation, but that could occur if crude oil becomes a speculative target. If equities have stalled then under these easy money conditions it is possible that speculative money flows into oil and other commodities, linked to geopolitical developments or solar maximum. The solar maximum is historically correlated with both conflict and speculation, so they could materialise inter-related. However, whether the smoothed solar max is ahead or behind us continues to outwit the experts, frustratingly. Here is SIDC’s latest update, still running with the two possiblities:

One more signal of a cyclical top would be the rolling over of leading indicators. Typically commodities top out once indicators are already in decline, sucking the remaining life out of the economy, whereas stocks are forward-looking. Currently, we see a mixed bag of indicators. Conference Board leading indicators have largely weakened of late, but manufacturing and service PMIs have shown general improvement. ECRI leading indicators for the US show a clear change of trend but this needs to continue to weaken and drop beneath zero, as per the action prior to the last two recessions:

Source: Dshort

What I believe should occur is that commodities start to make strong gains here, taking the reigns as late cyclicals. Stocks should rally again, with the commodity related companies providing the thrust. Then inflation starts to be evident, and a demographically-challenged global economy starts to roll over in leading indicators, at which point stocks end their topping process and begin to decline, whilst commodities go rally to a peak in early 2014. In short, it would be historically normal for commodities to outperform here and in doing so puncture the global economy (which is weak due to collective demographics), which would tip over collective leading indicators into the negative. If this is a cyclical top in equities, then all this should happen promptly, i.e. this thesis should be quickly validated or invalidated.

Two investment banks have recently come out with crude oil targets of $125 and $150. Clearly geopolitical (Syria currently) is a wildcard, but the evidence shows that the previous peaks in crude oil have been speculation-driven. As mentioned above, in these conditions of easy money, if stocks have lost their momentum, then an unloved commodities sector (and ditto emerging markets which are also fairly bombed out) could become the new target and quickly bid up. Disclaimer of course: I want this to happen, as I am long a basket of commodities. However, I believe the evidence now looks much more compelling for this to happen. Martin Pring echoes this and believes commodities have begun a new bull. China is displaying improvement, which is as the largest consumer of commodities, is important to the backdrop. Latest PMI today is back up:

Gold has the potential to run up some way higher, as sentiment is still languishing despite the recent rally:

Source: Acting-Man / Sentimentrader

Chris Puplava speculated that the US Dollar could break down from its range. Such a development would also likely be a catalyst for commodities. But, the FOMC output in the middle of this month, with potential QE tapering on the cards, is likely to influence the markets, as will developments regarding Syria. Nonetheless, I would take the stance that either a normal commodities late outperformance and broad rally is on the cards, or it isn’t. I.e. QE and geopolitical will provide short term movement, but I’d suggest won’t ultimately decide the course. I see increasing evidence that we are seeing the pieces fall into place for a commodities sustained rally, but again note the disclaimer and also note the timescale I believe is applicable, i.e. it should happen without delay, and the recent upmoves in precious metals and oil should continue shortly and spread over to other commodities.

Let’s take an updated look at Japan. The Nikkei has formed a triangle on the weekly, hopefully evident to all:

Source: Stockcharts

I don’t believe it’s clear which way that’s going to resolve. However, a similar but inverted picture on the Yen shows a candle last week that could mean this is a bear flag before further drops:

Source: Stockcharts

If the Yen breaks down that should benefit equities. However, the cheaper Yen has made imports to Japan more expensive, and Japan is a big energy importer. The Government’s aim of reviving inflation looks to be going well:

Source: Sober Look

However, this is largely the result of fuel and utilities going up as imports become more expensive, which is clearly no good for the economy (however, note that its exporters have benefitted). If commodities were to rally hard then Japan would suffer. However, as that development is just my speculation at this point, there is also positive evidence in the Japanese economy, which is what I would expect given their current demographic tailwind. We see the latest PMI shows strength, and makes last month’s drop look more like a blip:

Source: Markit

So, until or unless commodities, particularly oil, start to rally hard, I would side with Japanese equities breaking upwards. However, if US stocks are making a cyclical top then I would expect global equities to turn down once the topping process is complete and I would not see Japanese equities going the opposite way. Once again though, if US equities are making a cyclical top then we should see commodities rally again to provide the tipping over, and Japan would then suffer accordingly. In short, I will hold off adding to my single Japan long position, pending further developments.

This week we have the new moon on Thursday and the end of the lunar positive period at the weekend. I expect stocks can mount a rally this week and that may well be the next leg up in the topping process. I have updated all models this morning and the geomagnetic forecast for the next 3 weeks is overall down to flat.

Roundup

Posted on August 22, 2013 Posted in Commodities, Demographics, Indicators, Macro, Stocks95 Comments

Dust settling on the FOMC meeting minutes. Will know by the end of today the true market reaction. But gold has consolidated beneath the next resistance level which I believe is promising for a breakout to the next level shown:

Meanwhile I am unsure with US equities whether they can now rally as we move beyond the full moon and out of the lunar negative period, or whether the continued downtrend in geomagnetism together with a lack of bottoming out in sentiment and oversold (as suggested by Chris Puplava below) mean they have yet further to fall. If I could suggest a middle ground it would be that they muster a rally and then fall again in a kind of ABC correction.

Source: PFS Group

For Japanese equities, this is the picture:

I suggest it is also unclear. Either equities could rally here out of the smaller descending wedge together with the longer term support, or they could break down lower than the June lows to make an overall ABC correction from the peak. I would feel more confident about the former option if leading and coincident data had not been so much worse this month than last. Still, I may yet act here, will see.

All the CB leading indicators are in for this month apart from Eurozone:

Source: Conference Board

But combining German, French and Spanish readings, the Eurozone number is likely to be weaker than last month’s 0.5 but still positive. The stand out is China, with a rise to 1.4%, and this is echoed in the latest flash PMI reading, a sharp improvement:

Source: Markit

This bodes well for commodities.

The latest picture for narrow real money as a leading indicator suggests that economic momentum will top out in October / November and begin to fade at end-2013, according to Simon Ward:

Source: MoneyMovesMarkets

This would fit well with a scenario of stocks completing their topping process in the Autumn and commodities accelerating to a peak after stocks. It has been historically normal for stocks to peak ahead of the economy (once leading indicators are trending down) and for commodities to peak last once the economy has already dropped into a downtrend.

My last chart is courtesy of Megane Faber showing trends in CAPE valuations of all the major countries, to which I have added the text of the demographic peaks:

Underlying Source: Megane Faber

By my demographic work, CAPE and P/E valuations must be understood relative to demographics. A high valuation can and will go higher if the demographic trend is positive, and vice versa for low valuations. What we face now is an unprecedented downward pull in demographics from USA, China and Europe, i.e. a massive proportion of the world’s GDP. The obvious candidates for future CAPE spikes at this point would be Brazil and India, as they are both in the world’s top 10 biggest economies and have positive demographic trends. However, they would likely need to first grow into bigger more self-sustaining economies and, if that were possible, it will take time given it would take place against the collective downward pressure from the majors. In short, I don’t see a major CAPE spike on that chart coming for some time.

Updated Charts

Posted on August 19, 2013August 19, 2013 Posted in Bonds, Commodities, Currencies, Geomagnetism, Indicators, Lunar Cycles, Macro, Solar Cycles, Stocks21 Comments

1. Geomagnetism – downtrend out to mid-Sept:

2. Sunspots – up again currently but still no clear trend:

3. Economic surprises – coincident data positive in USA and Europe, improving in China, disappointing in Japan and languishing in emerging markets:

4. Leading indicators – weakening of late:

Source: Conference Board

Source: Dshort

5. Climate – July joint hottest 10th month on record, so not at mega-extreme, but still at levels sufficient to potentially disrupt agri.

6. Silver – this seems to be the obvious target to me, horizontal resistance and a re-test of the breakdown. If it can get there I will take profits on half my positions.

7. Full moon on Wed and end of lunar negative period this coming weekend. My aim is to take half profits on Dow shorts within that period. I have no price target, just that time target. I expect equities will rise again to complete a multi-month topping process so don’t think this is the time to load up short. One more up-move, I suggest.

8. Treasury yields advanced again. Tough to call what the Fed will do at the mid-Sept FOMC, but a month’s developments to go until then.

To sum up, still looks like a topping process in equities. Commodities outperforming currently and USD weak – this looks promising for a late cyclical rally in commodities, whilst equities top out. If the solar max is still ahead at the end of 2013 that whole process would fit, with commodities topping out in early 2014. To further fit, China and emerging markets should improve whilst the developed economies weaken in terms of leading indicators. Let’s see.

Macro And Markets

Posted on August 8, 2013 Posted in Bonds, Commodities, Currencies, Deflation, Demographics, Indicators, Lunar Cycles, Macro, References, Solar Cycles, Stocks29 Comments

It’s the start of the lunar negative fortnight today. I think this lunar downward pressure can be realised in price action in US equities, for these reasons.

1. Bonds may put in a rally here. Yields look to be arching over.

Source: Sentimentrader

2. Rydex equities involvement and sentiment at contrarian levels:

Source: Sentimentrader

3. Diverging bullish percent over call put ratio – note the previous occurences here:

Source: Stockcharts

4. Breadth divergence. There are a few indicators showing this such as % stocks above 50MA, Mclellan Summation index, and, here, advance-declines (making a double top versus the higher high in equity prices):

Source: Cobra

No devastating decline in overall market internals. but enough to warrant a pullback. Countering this, the latest economic surprises, service PMI and manufacturing PMI, and overall earnings beat rate for the US have all been good. For a cyclical stock market top, we would need to start seeing some degradation in such data. However, if this is a topping process, then I expect we are only in the middle of it at this point, with a last push up to come ahead into September (assuming a decline can be realised over the next 2 weeks). By September I would then expect to see some macro reasons emerging to complete a topping process in equities.

I have doubled my short position on the Dow today and have specifically tallked about and targeted US equities because of the current divergence around the globe. The latest Markit PMIs really showed a vast difference between emerging and developed economies. Sober Look suggests this spread in economic cycle positioning:

Source: SoberLook

UK and Eurozone are looking particularly impressive and USA ticking along nicely. Australia has suffered since China lost momentum, and its central bank reduced rates again this week. This is the collective picture for the major central banks:

Source: Action Forex

Despite the QE tapering talk in the US, the graphic shows that we are still in an era of easing, with interest rate reduction still being pursued. As you know, I believe demographic trends are the source of the global economic weakness, ensuring we will be in an era of negligible rates for some time. Maybe the Fed will start to taper as early as next month, but I believe an end to QE and a renewed rate-increase policy will not be seen soon.

So, China has cracked, in my opinion, since its demographic trends reversed circa 2010. Those developing nations that boomed directly as China partners and those commodity-economies that benefitted from the long rising trends in commodity prices (through China demand) are currently suffering. This would include Brazil and Russia. India’s issues have been more internal and it needs reforms to help realise its demographic potential.

For most of the 2000s, this China plus emerging markets story was the fuel for the global economy, but now we are looking back towards the developed world to take the batton. Unfortunately, the US and Europe have significant demographic headwinds. I therefore don’t believe that we are now going to see sustained growth in the West. I continue to believe that either another rally in commodities will tip the world into a global recession, or the world is heading that way in a deflationary trend.

And that remains the key question for my account. Will my commodities longs prosper, or continue to sink? Right now, the commodities indices are potentially carving out a higher low than late June, which could spell an end to their downtrend. I believe this is the time for that to occur, because of my belief that equities are in a topping process. Historically they should now outperform and largely act as late cyclicals. I see this next month as critical for commodities. If they cannot make a higher low than June at this point, paricularly as the USD weakens, then it would look bearish for commodities.

Here is corn, showing a potential rally set up.

Source: Sentimentrader

And copper looks to be breaking out following a month-long basing pattern.

To draw the above themes together, can emerging markets strengthen into year-end, positively-infected by current developed economy performance? If so, the commodities rally would appear more likely. If on the other hand developed markets begin to join emerging economies in weakness, then a deflationary downdraft would be more likely. The wildcards remain the solar cycle (if the peak is ahead, then a speculative push in commodities could occur with increased geopolitical conflict an associated input) and climate (drought, flood and very high historical temperatures remain very much in play – it depends whether we see a devastating coming-together at the critical time and global location for agricultural crops).

OECD leading indicators just released today are more supportive to the first scenario of emerging markets strengthening and joining developed nations, with Russia stabilising and India improving:

Source: OECD

Roundup

Posted on August 5, 2013 Posted in Bonds, Commodities, Currencies, Deflation, Demographics, Geomagnetism, Indicators, Macro, Real Estate, Solar Cycles, Stocks21 Comments

This is the latest geomagnetism forecast versus the SP500. The forecast extends to the beginning of September and as can be seen has further transformed from a downtrend to a sideways/up trend.

The SP500 notably diverged from the model throughout July, more so than other indices which have more closely tracked the model. The outperformance of the US stock indices has meant p/e valuation has now increased to make the US amongst the world’s more expensive:

Source: FT

Is this justified? Not by demographics. Here once again is my real US equities plus real US house prices model versus 3 demographic ratios for the US:

That model has edged further up now in mid-2013 as real equities are back at 2007 levels and real house prices have edged up a little more (though are still a long way from the real 2007 peak). Yet the 3 demographic trends call for the model to collapse once again, as in 2001 and 2008. What makes demographics more potent this time around is that China has joined Europe and the USA in an unprecedented collective downward demographic pressure.

If we take the best of the three demographic measures, middle to young, only, then this is how it looks:

Source: PFS Group

Is it possible that the 2014-15 bottom is near enough and that stocks have taken off already? Well that p/e10 now stands at around 25, having bottomed in early 2009. That would mean p/es bottomed out around 5-6 years before the M/Y ratio, whereas in 2000 and 1982 the two peaked and troughed at very similar times. In the 1960s there was more of a gap, with demographics topping out a few years before p/es, but note it was demographics rather than p/es first, and this is echoed in my demographic work on Japan and UK, namely that if there is any lag it is demographics changing course first. In short, another cyclical bear in US stocks still looks the most likely course to me, and this is further cemented when we draw in all demographics measures, demographic pressures in China and Europe, and other US market valuations such as the Q ratio.

However, current leading indicator data is still largely positive for the USA at the moment (e.g. latest Markit PMI), and Europe is showing renewed strength (Markit PMIs, Conference Board). In fact it is the demographic-positive markets such as Brazil which are showing particular weakness. So what’s going on? I suggest commodities have played a key role in this. Lower input prices have boosted the developed economies and stocks. Commodity-economies such as Brazil have suffered. If commodities can rally again and make a historically-normal late-cyclical peak after stocks have peaked then I suggest the demographically-challenged major economies won’t be able to handle the renewed input price pressure. I believe the weak global recovery will topple over if commodities, particularly oil, rise in a meaningful way again.

Here is 30 year treasury yields with CCI comodities index, world equities index and Euro-USD. Euro-USD and commodities could be in a new uptrend that began in early July, IF they can make a higher low here.

Source: Bloomberg

But too early to say anything more. For me, it remains a game of patience, waiting to see if commodities can start to outperform here. Gold and silver had a very up-and-down week last week. Oil has maintained its breakout but appears to be stalling.

I believe the solar cycle still has a key role to play in the fortunes of commodities. Here is the latest SIDC update which continues to show two possibilities. If the solar max was Feb 2012 then I suggest commodities peaked out in 2011. If this were the case then I don’t believe a new secular bull market in stocks is underway because as per my work secular actually is demographic and the major economy demographics don’t support a new secular bull. I rather expect a deflationary recession to come to pass in due course. If the solar max is ahead as per the second SIDC option then I believe we will see the historically normal late outperformance of commodities from here into 2014 and that will tip the world into recession.

Source: SIDC

In the near term, I am looking at the window from tomorrow’s new moon through to Friday’s end-of-lunar-positive period to take profits on some equities longs and potentially add more short equities. I would like to see stocks advance further this week to do so.

All Round Update

Posted on July 31, 2013 Posted in Bonds, Commodities, Currencies, Deflation, Demographics, Geomagnetism, Indicators, Lunar Cycles, Macro, Solar Cycles, Stocks18 Comments

I’m back. Here’s an updated look at the main pillars of my work.

First, demographics. The key overarching macro issue going forward, in my view, is whether the combined price-deflationary and asset-deflationary demographic trends now in place between US, Europe and China will tip the world into recession and deflation despite the best efforts of central banks. Someone else has picked up on the theme and produced this:

Source: Nakedcapitalism

I continue to look at leading indicators for evidence. There is no doubt central banks have some impact on behaviour in the economy and financial markets by deploying policies to discourage savings, cash and fixed income, and to encourage lending, risk-assets investment and spending. But is it enough to offset the demographics?

The latest data shows Europe strengthening (PMIs, economic surprises), USA possibly having peaked (ECRI, economic surprises), and the overall global economy potentially weakening towards late 2013 but not until then (narrow real money). This week’s US GDP release surprised to the upside for last quarter, however the upside surprise matched the retrospective reduction in the previous quarter’s data. Nonetheless, the overall global picture is still fairly ‘safe’. Europe’s relative strength ahead should bode well for the Euro v USD, and a relatively weakening USD should bode well for commodities, and if we are to see the normal late cyclical outperformance in commodities (once stocks peak) then we need leading indicators to at least hold up a little longer.

If the unprecedented coming together of demographic downtrends in US, China and Europe mean the global economy is heading for recession no matter what (given China has now peaked demographically), then I believe this will mean a severe nominal decline in equities, as central banks will be revealed as impotent, and panic will ensue. If we slip into global recession without the ‘agent’ of commodity price acceleration then I would expect the SP500 to complete an overall megaphone formation since 2000 with a potentially lower low than 2009.

Next, solar cycles. Experts still don’t know if a solar peak is ahead or behind. Here’s the latest sunspot chart:

It’s clearly a weak sunspot cycle, and fairly messy. Some scientists believe there is a second peak ahead this year, which may exceed the existing smoothed max (Feb 2012). On the other hand, an overlay of SC5 suggests that existing peak may have been it:

Source: WattsUpWithThat

If the peak was Feb 2012, then I would point to 2011’s commodities speculation including a silver parabolic together with extensive Arab revolutions as normal behaviour patterns associated with solar maxima. It should mean that we have passed the speculative peak in commodities, that global temperature may have already peaked, and that we should expect the geomagnetic disturbance peak that follows a solar max normally 1-3 years later and is associated with recession. In this scenario I would expect commodities to continue overall weakness and deflationary recession to occur.

If the peak is still ahead later this year then we may see global temperature hitting extremes and more geopolitical trouble, together with a speculative peak. All three could push up commodities in a late cyclical outperformance into 2014 with bonds already having topped and stocks topping this mid-year. In this scenario I would expect an inflationary spike to help tip the global economy into subsequent recession.

Next, geomagnetism. All models have been updated for this week, and drawing in the next 3 weeks geomagnetism forecast, we see this (mapped against the commodities index):

A flattening out in cumulative geomagnetism in August following a downtrend May-July. By normal seasonality, geomagnetism should be troubling again by September and October. August-September would therefore be a suitable time for US equities to make a final peak in a topping process, if one began in May. Did one?

Well, so far the process is developing like a typical top. A marginally higher high is currently being played out with some weakening in breadth versus the May peak (% stocks above 50MA, Mclellan summation index). Margin debt still looks like it peaked in April, and in 2000 and 2007 this peaked 3-6 months before the stock market finally rolled over. However, this would all be invalidated if stocks push on again here and away from the topping range, with breadth strengthening again. US earnings may play a role in this and so far have made an impressive earnings beat, but a poor revenue beat rate. This means companies are making profits by cutting costs. This could be a warning if the economy shows signs of weakening, which brings us back to the importance of leading indicator readings as they come out. If central banks have been able to juice the economy just enough to offset demographics, through rate cuts, QE and verbal support (do what ever it takes) then it is feasible that this already long cyclical bull (by historical comparisons) continues. But I side with the multi-month topping process currently playing out until counter-evidence increases.

Next, lunar phasing. I have updated The Lunar Edge page and this is how the two of the most ‘sensitive’ indices to lunar phasing have performed so far this year:

The German Dax has delivered all of its annual gains so far within the lunar positive fortnights (4 days after full moon through to 4 days after new moon), whereas the Singapore Straits has really delivered no lunar edge of any note so far this year. Nonetheless, a strategy playing the lunar edge equally across both would still have returned well overall. I continue to look to the start of lunar negative periods for adding short and to the start of lunar positive periods for adding long, in order to time my longer term trades. On that note, the current lunar positive period ends by Friday next week. If equities have been able to rise further by then, I will look at taking profits where in profit, and adding short at that point if evidence continues to support a topping process.

Because we are in a lunar positive period currently, and Japanese equities fulfilled what I last suggested look liked occurring (the arching-over turning into falls) I have entered long Nikkei again, but just a starter position. My main exposure currently remains long commodities, with greatest weighting precious metals. I have various significant loss-making positions in commodities. I continue to believe that because of demographic trends precious metals will come again as the anti-demographic. I suggest central banks in US, China and Europe will continue to have to support the economy for some time to come and that renewed dovish talk will benefit gold. For other commodities, I return to the solar maximum unknown. If the solar maximum is ahead still, then I believe temperature and geopolitical disturbance and speculative mania can inspire a historically normal commodities peak following a peak in equities. Crude oil’s breakout in June gave this more credibility. Crude has now pulled back a little, and it will be important to see if this is consolidation before further gains.

If commodities as a whole have peaked and deflation continues to press them downwards, then I will be holding increasing loss-making positions. What to do? I will be looking to average down and time mean reversion. Nothing goes down in a straight line and I will be looking to convert them into winning trades in a ‘trade your way out’ style by leveraging up. Not easy, and no doubt some would view that as too risky, but that’s what I will be doing. Don’t follow me, etc, I’m just sharing with you what I’m doing, as the money management is as important as the analysis, right? But first, let’s see if commodities can outperform in the rest of 2013, as the previously detailed evidence suggests is possible. I want to give them a little more time to gather momentum, before using aggression.

Some key assets. Gold reached important resistance around 1344. Can it break through? If not then the basing process in precious metals will need some time longer. It is confidence restoration versus short squeeze, but if the latter is to occur then we will need triggers in the news. The US dollar has been in decline since the Fed backtracked on QE-tapering-hastiness, turned away at key long term resistance. However, it could yet be consolidation before another charge. I believe it will weaken as the Eurozone relatively improves, but the Fed’s actions will play a key role. Since I sold out of short-treasuries they tracked overall sideways. This could be consolidation before further rises in yields, but as there has been no pullback I don’t wish to yet rejoin.

I am writing this post US GDP release and pre FOMC output. Both market movers, and it will take until tomorrow for the dust to settle and we see where different assets want to go. But I wanted to get the post out as my trip gave me no opportunity. Thanks for your comments and emails whilst I have been away.

S O L A R C Y C L E S

Category: Indicators

Weekend Research Pt2

Weekend Research

Updates

State Of The Markets

Roundup

Updated Charts

Macro And Markets

Roundup

All Round Update