Saturday, December 20, 2008

John Mauldin on Stocks

John Mauldin subtitled this week's newsletter, "Collapsing On Schedule". It appears aptly named. And guess what? Mauldin considers himself optimistic. He expects a recovery in late 2009. He is definitely no perma-bear!

"So a P/E of 15 at the stock bottom sounds reasonable, but would put the S&P 500 index at 600 then, down 32% from here and 61% below its record close on Oct. 9, 2007. Wow! .... Last month, the S&P 500 fell below 777. It has since bounced, but probably not for long as new lows lie ahead."

Note: The S&P 500 index closed yesterday at 887.88. A decline to 600, as Mauldin forecasts here, would be an additional 32% decline from yesterday's close.

Mauldin on Quantitative Easing by the Fed

"Washington officials cringe at the suggestion that these measures amount to "quantitative easing," the Japanese policy initiated in 2001, because it failed to rapidly spur Japanese bank lending and the economy and arrest deflation. The Bank of Japan drove its target rate to zero with no effect and then tried to hype the quantity of money by buying government bonds, asset-backed securities and even stocks.
[My Note: just this week, the Japanese government announced that it will spend more than 220 billion dollars to once again buy stocks in an attempt to put an artificial floor under the Japanese stock market. It didn't work last time, but... At least the Japanese can do it with reserves instead of going into debt like the U.S.!]
"Current quantitative easing by the Fed may not be any more successful than it was in Japan since the global financial system is in a classic liquidity trap, as in the 1930s when bankers were defined as people who wanted to lend to those who didn't need to borrow and didn't want to lend to those who did. Today, banks don't want to lend to anyone but the U.S. Treasury.
"Conventional monetary policy ease through central bank target interest rate cuts at present is nearly useless, i.e., pushing on a string. Qualitative easing, now actively pursued by the Fed and the Treasury and by central banks and governments abroad, will probably at best only stabilize demoralized financial structures by substituting government securities for questionable assets with little near-term rejuvenation of lending and economic activity. "

FDIC Woes! Hedge Funds Collapse!

More from John Mauldin:

"The FDIC recently announced that the institutions it insures had only $1.7 billion in earnings in the third quarter, down from $28.7 billion a year earlier. And financial troubles aren't confined to banks. Many hedge funds have suffered huge losses on their highly leveraged positions this year. And their sales of securities to limit further losses and to meet investo redemptions are adding downward pressure on many markets. In some, assets are down 50% while others are folding their tents and still others are limiting redemptions, only adding to investor restiveness. Redemptions are expected to jump early next year."

Note: If the banks that the FDIC insures slide further and begin to lose money as a group, instead of the meager $1.7 billion in profits they earned in Q3, then they will be undercapitalized once again, despite the injection of $350 billion of taxpayer funds into the system. They won't be able to resume lending because their reserve requirements will still force them to raise additional capital and hold onto their cash instead of risking it by lending it out.
Hedge fund redemptions were the primary cause of the plunge in the stock market during the fall of 2008. If Mauldin is correct in forecasting additional redemptions in early 2009, this could precipitate the plunge in the stock market the he forecasts in my later post.

Housing and Economic Update: Realty Reality Check

John Mauldin's latest newsletter has an economic outlook for the first half of 2009. It includes an update on the status of the housing sector. Here is a brief exerpt:

"At present around 12 million homeowners, a quarter of those with mortgages, are underwater with their houses worth less than their mortgages. Among those who bought their homes in the past five years, 29% are underwater. If our forecast of a 37% house price fall is reached, about 25 million, or almost half the 51 million with mortgages, will be underwater."

Click here to read the entire newsletter.

Friday, December 19, 2008

Stock Sizzle Turns to Stock Fizzle

The bulls need to step things up soon, or sentiment could turn negative in a hurry. This would be a terrible shock to see the most bullish news this week turn into a rout instead.

Corn Sales Down, Prices Follow, As Do Other Grains

The USDA has reported that corn sales for the new crop year (started Sept. 1) are well behind last year, causing grain prices to open down today. U.S. corn sales are 700 million bushels behind the 2008 crop year pace after just three months. The stronger U.S. Dollar is also suppressing prices.

Despite that wheat opened lower also, there is growing concern of damage to the winter wheat crop in the ground. Lack of snow cover and icy temperatures threaten to damage the crop. Snow cover helps to protect the tiny seedlings because it insulates them from the coldest temperatures.

Oil Dips Below $34 on Expiring January Contract

Interestingly, however, the February contract is still priced much higher, as traders are anticipating much higher crude oil prices to come.

S&P Downgrades Debt Ratings on Largest Financial Institutions

Standard and Poors has now dowgraded the debt on 11 major financial instutitions, including Bank of America, Deutsche Bank, JP Morgan, Morgan Stanley, Wells Fargo, and Goldman Sachs. And to think that JP Morgan, Bank of America, and Wells Fargo were touted as the strong ones that could rescue some of the others! Ouch!
Even more bad (debt) news. Jumbo prime loan instruments are also now being downgraded too as default rates are rising rapidly. This is ominously frightening in that it portends the likelihood of a flood of new mortgage defaults and foreclosures on the homes of America's wealthy borrowers.

Oh What a Relief Rally... It Is!

Stocks rallied upon the revelation of the details of the auto company bailout revealed this morning by President Bush. Unfortunately, the terms of the loan can be changed at any time, so Mr. Bush is merely passing the baton in a relay race. This creates even more uncertainty about the future than the bailout that Congress was negotiating. Is that perhaps why the rally is starting to fizzle already, just 15 minutes after the news is announced?

Auto Bailout: $13.4 Billion Sticker Shock


"President Bush is announcing a $17.4 billion bailout for auto manufacturers, with the loans contingent on the firms proving that they can become "viable" ongoing firms. Of the total, $13.4 billion will be paid out in December and January. The last $4 billion is contingent on the second installment of the Wall Street bailout funds from Congress."

Here is the full story.

GE's Investment Grade Bond Rating at Risk

Standard and Poors has downgraded the debt rating of General Electric. It has now rated the likelihood of GE's debt being downgrade to below investment grade at 30%.

Thursday, December 18, 2008

Here We Go Again! BOJ Threatens Interventions!

The largest trading loss I ever took occurred about 4 years ago when the Bank of Japan intervened in the currency markets just after I took a trade. I sold the USDJPY currency pair with several lots shortly before the Bank of Japan intervened to suppress the Yen to protect exports. I not only got clobbered, I added to my position and held onto it until the losses became so great that I could no longer endure the pain.

Here we go again! The Bank of Japan has now begun engaging in verbal interventions in the currency markets because the Yen has been rising steadily for several weeks. Now, with the Dollar falling following the Fed's interest rate cut to 0%, the Yen is rising even against the Dollar. Eventually, once the verbal interventions are no longer effective, the Bank of Japan will once again intervene with huge injections of trillions of Yen to push the price of the Yen downward.

Credit Suisse Predicts 4X More Foreclosures

From Bloomberg tonight:

"Over the next four years, 8.1 million U.S. mortgages will enter foreclosure as the recession worsens and home prices continue to fall, Credit Suisse said in a Dec. 4 report. Banks, insurers and mortgage companies have recorded about $1 trillion of losses worldwide since the start of the global credit crunch in 2007."

This is a staggering figure considering that so far, about 2 million homes in America have entered foreclosure! Folks, we are just getting started!

But it gets worse! From the same article:

"Almost 53 percent of borrowers whose loans were modified in the first quarter were more than 30 days overdue by the third quarter, John Dugan, head of the Treasury Department’s Office of the Comptroller of the Currency, said last week at the National Housing Conference in Washington."

This article is telling us that all those loan modifications don't work! Once the ink is dry on them, people default on their loans again and their homes go back into the foreclosure process a second time!

Click here for the full story.

Wheat: Yes, They Call This An Uptrend

Wheat has been moving solidly higher for two weeks now, primarily because weather conditions for winter wheat are not good. Concerns for winterkill are rising, and with it, so are prices. Also, Argentina has cut its wheat forecast.

Stock Market Free Fall Means the Bears Won Today

We have now wiped out the entire Fed rally from Tuesday!

Strong Forces Battling in Stock Markets

After the 359-point rally of the Dow following the Fed's announcement two days ago, a few forces appear to be in a deadly battle for the foreseeable destiny of the stock market. Prices closed convincingly higher than the 50-day moving average on Tuesday, which is highly significant, especially for longer-term traders. Prices have also remained above the 50-day moving average since then. This is quite bullish!

On the other hand, prices have shown no follow-through to move higher over the past two succeeding days. Today's pattern looks like radio static, and is nearly impossible to trade with any consistent success. We may also see a new round of hedge fund redemptions within the next few weeks, as investors try to cash out. We have yet to see a genuine sense of capitulation in the stock markets, despite all the bloodshed. There still remains an amazingly resilient and optimistic set of investors that haven't seen the need to "get liquid" and move to cash yet. Additionally, bond traders are seeming to predict a depression, and these guys have one of the most accurate track records in a historical sense. This is quite bearish!

Thus, we see a classic bull/bear battle playing out in the stock market index futures. This typically results in a consolidation pattern. Add to that the fact that volume is weak during the Christmas Holiday season, and we could see some very interesting patterns over the several days, probably lasting until the new year, when volume levels, along with many traders, will return to the markets.

EUR/USD Currencies: Too Far, Too Fast

After the plunge in the value of the Dollar over the past few days, I have begun to think that the Dollar had fallen too far, too fast. Likewise, the Euro had climbed against the greenback too far, too fast.

This wasn't surprising, given the shock delivered by the Federal Reserve on Tuesday. Even with the Federal Reserve's notice that it was reducing rates to 0%, and its new strategy of quantitative easing, the Euro had been rising rapidly (Dollar falling rapidly) for at least a week before the Fed's shock. By looking at the daily chart of the Euro (not shown, this chart shown here is the intraday for today), I couldn't help but notice that even the opening prices occurred outside the Bollinger Bands. That phenomenon can be easily seen on my previous posts of the Euro and Dollar over the past few days. That means that prices were printing at three to four standard deviations outside the norm. The statsitical probabilities of that occurring, much less being sustained at that pace, are astronomically and statistically small. Interestingly, today's retracement, as shown on the daily chart, is a relatively small one.

Needless to say, that is a parabolic price move by any standard or measurement. It is unsustainable for more than a few days. With such a rapid and powerful movement, we are more likely to see a Cahen bubble pattern rather than a long, sustained set of parallels (see earlier posts explaining the two, or Cahen's book). Thus, as I was reviewing my charts last night and noticing such extreme price movements, I began expecting either a regression to the mean (reversal) or a consolidation for a few days until the bands -- and market sentiment -- can catch up. We may then see another strong movement higher (for this chart, the Euro).

Does that mean the Dollar downtrend/Euro uptrend is over? Not necessarily, but we certainly need to take a breather for a few days, at the very least. After such a monstrous move in the currency markets so quickly, a consolidation period is not only warranted, it is expected. In fact, the more extreme a movement is, the more likely the market is to reverse rather than merely consolidate. We'll know which it will be within a few days. My bias is for further downside to the Dollar, but now that I have acknowledged my bias, I will try to ignore it in trading.

I have noticed also that after such a forceful and fast movement, there are often unintended consequences, or perhaps better said, unexpected effects, that follow within a few days. These unexpected effects tend to amplify the original movement. Forces are set in motion that become almost unstoppable, and we never know what those forces will be or what they will unleash! Sometimes those forces take a few days to creep through the financial system and take effect. Hence, my bias for a deeper Dollar plunge. But no one really knows. Anything can happen in the financial markets.

Obama Increases Size of Proposed Stimulus Plan

From Bloomberg:

"Barack Obama may ask Congress next year to approve a stimulus plan of around $850 billion, an amount that has grown as the U.S. economy sinks deeper into recession, an adviser to the president-elect said."

Wednesday, December 17, 2008

Crude Oil Dips Below $40


Oil prices tumbled below $40 for the first time since the summer of 2004 Wednesday despite an announcement from OPEC of a record production cut of 2.2 million barrels a day...
"There's just so much oil in inventory out there right now," said Michael Lynch, president of Strategic Energy & Economic Research. "Nobody wants to buy this stuff."
Crude prices have fallen so low, producers have leased supertankers to store the oil at sea, hoping that oil will rebound.

Click here for the full story.

Wow! Amazing that on a day when OPEC cut production by 8%, the price of crude oil on the Jan 09 contract briefly dipped below $40/barrel.

Russia Considering Joining OPEC

“I would like to say that we are prepared for this [joining OPEC]. We must defend ourselves, since this is our revenue base, both from oil and gas. These kinds of defensive measures could be tied to lowering oil production, and participating in the existing suppliers organization, and participating in new organizations, if we can come to an agreement beforehand, so to speak.”

Russian President Dmitri Medvedev

If Russia does join OPEC, Europe will be even more at the mercy of Russia, since it buys much of its energy resources there. It could have costly consequences for Europeans who like to drive or stay warm in the winter.

Cuckoo for Cocoa!

I looooove chocolate, especially when the price is rising due to lack of supply from African producers! And I like even more every day!

Some of the Immutable Laws of Trading

Today I posted a comment to help a fellow investor/trader on
Here is an excerpt of my comment:

"One of the cardinal rules I use in trading is called Rule #1 from a book by a very successful trader (who, by the way, gives it away FREE):
"Rule #1: Assume it is a bad trade until proven correct! Positions established must be reduced and removed until or unless the market proves the position correct. (from Phantom's Gift -- see my blog site for more info on the book -- absolutely at no cost whatsoever.)
"This rule has saved me a lot of pain, and has ironically also made me a lot of money! Not only is maintaining a losing position bad for my pocketbook. It is bad for my emotional state and it gives control of my money to the market instead of me keeping control of it in my hands."

If you'd like to read my entire comment, including some other laws of trading, you can read it here:
Treasuries Rise Again

The essence of Rule #1 is that you only stay in a trade if it is a profitable trade within a reasonably short period of time. All other trades are exited quickly! You don't put on a trade and then sit around praying that it will make money, all the while waiting with white knuckles and baited breath. By doing this, I save not only my money, but my sanity! I also guarantee that I will have money to trade another day!

Building the Treasury Bubble

Treasuries continue to move even higher. This is one monster bubble!

Has anyone stopped long enough to ask what is going to happen to interest rates when this bubble pops and/or the Fed starts to sell all those treasuries it is buying? One should consider also that when the Fed starts to sell, so will many other traders and investors. Just as many other investors are buying treasuries today (don't fight the Fed, right?), pushing them into bubble territory, when the Fed starts to sell, other investors will sell treasuries also. When that happens, I shudder to think what the consequences will be, both for the American People, and for interest rates!

Now THAT'S a Bull Market!

The Euro is in a new bull market -- higher 10 of the past 12 days (and if you blinked, you'd miss the two tiny dojis where the Euro closed lower). The Euro is higher for the past 6 consecutive days! Now that's one raging bull!

Dollar Continues to Tumble, Euro Continues to Climb

The US Dollar today:
The Euro today:

Grains Slashed In Sympathy to Crude Oil

Grain prices have been slashed this morning at the open in sympathy to the drop in crude oil prices. Corn, wheat, and soybean prices have also sold off in early trading. I would be very surprised if prices don't recover and move higher.

Large Formerly Long-Only Funds Now Short Commodities Also

From Vic Lespinasse at

"Calpers, the largest pension fund in the US, has said they are going to broaden their approach to commodities investing. Up until now they have followed the index fund long only model, especially the SP GSCI (S+P Goldman Sachs Commodity Index), which is having a losing year. Calpers said they will hire additional commodity advisors and consider investing in commodities from both the long and short side, following trends in both directions rather than only the long side."

This is significant because if other large funds follow suit, it will help to prevent commodity bubbles like what we saw earlier this year. If Calpers and others take both long and short positions in commodities, then there will be market forces of equal weight that will influence prices both higher and lower. Large pools of liquidity are needed in the futures markets to provide tight spreads with constant price discovery. They are a benefit to all market participants. It will also remove much of the motivation that Congress has to impose new and potentially onerous regulations on the futures markets. This development will help to keep the markets free, open, and most importantly, liquid!
Since the commodity boom earlier this year, exchange traded funds that short the commodity markets have also blossomed, and they have probably also been a moderating influence on the commodity markets. These are helpful developments that help all market participants and are a free market response to previous market inequities. The futures markets have shown themselves to be self-repairing! This is a typical adjustment that occurs naturally in free markets and millions of market participants, all acting independently and in their own self interest, take actions to fill the gaps of prevoius market inequities. As market participants see ways to profit from market gaps, they quickly take actions to fill those gaps, and the inequities disappear.

OPEC Slashes Production by 4.2 Million BPD

OPEC ministers in Algiers have decided to dramatically cut crude oil production by more than double the expected amount, slashing output by 4.2 million barrels of production per day. Even still, the production cut is being met my market forces with somewhat of a yawn. Crude oil is trading lower now than before the announcement! Clearly, the crude oil market sees the cut as necessary given the global economic recession and the temporary glut in supply for the time being. Crude oil appears to be settling into a trading price range of about $43-$49 per barrel.
This is a favorable price for motorists and is welcome news for the world economy. However, most experts in the crude oil markets recognize that this price is below the drilling and production costs in most parts of the world. Hence, crude oil production is likely to fall over the next year or two until the price of crude rises again to make additional production profitable.

Stock Index Futures Show No Follow-Through

Poor follow-through from yesterday's Fed-induced stock market rally leaves me feeling a bit worried. Of course, its still early, so we can hope for a rally during the day session. Fortunately, it appears that after falling about 170 points, the Dow appears to have bottomed and formed somewhat of a rally. Historically, following Fed decisions over the past 18 months, follow-through has been poor the following few days after the decision. Past is likely to be prologue.

Has the Fed Switched to Quantitative Easing?

Now that the Fed has effectively reduced interest rates to zero, what are the new arrows in the Fed's quiver? One is quantitative easing, which was employed with limited success by the Bank of Japan during its deflationary cycle a few years ago. What is quantitative easing? In a short definition, it is lowering interest rates to near zero and flooding the financial system with excessive liquidity in an attempt to stimulate private lending. A better question is, does it work? The Bank of Japan's own assessment of its effectiveness was that "the possible stimulus obtained... was likely to be limited." Ouch!

Click here for an excellent primer on how quantitative easing is supposed to work.
Here is another excellent article on the subject. (I also suggest reading the reader comments. Some are quite insightful.)

From Wikipedia, the description of quantitative easing is thus:

"With quantitative easing, [the Bank of Japan] flooded commercial banks with excess liquidity to promote private lending, leaving them with large stocks of excess reserves, and therefore little risk of a liquidity shortage. The BOJ accomplished this by buying more government bonds than would be required to set the interest rate to zero. It also bought asset-backed securities, equities, and extended the terms of its commercial paper purchasing operation."

Now doesn't that sound just like what the Fed is doing now?

Unfortunately, quantitative easing didn't work very well, if at all, in Japan. Following the initiation of quantitative easing by the Bank of Japan in 1998, the stock market didn't bottom for 5 more years! Worse yet, real estate prices in Japan continue to fall nearly two decades later!

Thus, one must wonder why the Fed is using it now. It certainly has a pall of desperation about it. Is this all they have left to try? Recent Fed documents suggested that the Fed might soon begin to use it, although the Fed seems reluctant to call it that. The Fed says it is engaging other forms of stimulus also. But a spade is still a spade, even if you call it something else. If it walks like a duck and quacks like a duck... Perhaps the Fed has other forms or additional arrows still in mind? They'd better, because quantitative easing doesn't have a very good history of success!

Tuesday, December 16, 2008

Live Cattle Limit Up!

More commodity prices that rocketed higher today:

The Commodity Bust is OVER!

This is the daily chart for corn. Even more amazing is that this chart was complete before the Dollar plunged today. Imagine what this chart will look like when trading begins again this evening!

So Do Natural Gas and Crude Oil!

After a brief dip, both natural gas and crude oil explode higher also.

Finally! Stocks Take Off!

What took so long?! Finally, buyers step in to push stock indexes higher also!

Gold Goes Stratospheric!

While the grain markets were closed at the moment of the Fed's rate decision, gold has gone stratospheric in anticipation of higher inflation.

Stocks Move Higher, But...

Why hasn't the stock market moved higher more forcefully? Look at the up and down gyrations following the Fed move. Isn't this decision engineered to send stocks into the stratosphere? This is worrisome to me that stock index futures haven't shown greater enthusiasm for this "anything goes" and "whatever it takes" approach by the Fed. At this writing, one hour following the Fed's decision, the Dow is only about 100 points higher, and it is no higher than it was 1 minute following the Fed announcement. The reaction should have been just as parabolic as the foreign currencies were. This is very troubling indeed. It doesn't feel right to me.

Treasury Interest Rates Plunge on Bond Buying

The Yen Skyrockets

Canadian Dollar Skyrockets

Even the British Pound Skyrockets

Aussie Dollar Skyrockets

Euro Skyrockets on Fed Decision

Dollar Plunges Off a Cliff Following Fed Policy Announcement

The Fed has indicated that it will lower interest rates to as low as 0%, and that it will continue to buy heavy volumes of U.S. Treasuries well into the distant future.
US Dollar Plunges following Fed rate announcement:

Euro Continues to Build Solid Foundation

Just as occurred during the first half of 2008, the ECB has signalled an end to its interest rate easing cycle, and the Fed has signalled even easier money to come. Thus, the Euro is rising once again, and the Dollar is crumbling under the weight of fiscal and monetary ease. The Euro is now in a new bull cycle, and today's trading is symbolic of that longer term trend. This chart shows the new trend on the daily chart.

Dollar Drag Provides Support for Grains

The return of the slumping US Dollar is providing strong support today for the grains. Corn, soybeans, and wheat have all moved steadily higher from the start of the day session today.

More Rude and Crude Perspective

From Bloomberg:

"[Merrill Lynch analyst Francisco] Blanch changed his 2009 price forecast at least four times this year as the worst global slowdown since 2001 spreads. His most recent estimate that crude may fall to $25 came on Nov. 26. The Organization of Petroleum Exporting Countries’ 13 members meet in Oran, Algeria, tomorrow to try to stem crude’s decline."
Here is the full story.
My translation of this is to expect a wild ride in the energy sector. The supply and demand parameters for energy appear to be a moving target.

Russia's Industrial Output Falls

From the Wall Street Journal:

Russian industrial output plunged in November, exceeding even the most pessimistic expectations and affirming that the country's economic fundamentals are too fragile to fend off fears of a recession. Industrial production, hit by liquidity shortages and falling export demand, slumped an unadjusted 8.7% from November 2007, data released Tuesday by the Federal Statistics Service, or Rosstat, showed.

Click here for the full story.
It appears that no one, including the largest and most prosperous emerging markets, are immune from the effects of this recession.

Dollar Resumes Its Slide

If the US Dollar continues to slide, then we have a classic conflict between the deflationary forces of sluggish demand, and the inflationary forces of a devalued currency. Perhaps this will yield commodity price consolidation or stagflation.

Awaiting the Fed

Today we play the waiting game for the Fed rate decision and statement this afternoon. Both volume and volatility have been unusually low yesterday and today.

CPI Slides 1.7%

From Marketwatch:

The U.S. consumer price index fell by a seasonally adjusted 1.7%, the Labor Department reported Tuesday, the biggest drop since the government began adjusting the CPI for seasonal factors in 1947. On a non-seasonally adjusted basis, the CPI fell by 1.9%, the biggest decline since January 1932, at the nadir of the Great Depression.

Here is the full story.
This may now be old news, since commodity prices have shown signs that they have bottomed during the month of December.
That said, as long as economic news remains weak, I don't see a new bull run in commodities. I suspect it will be a trader's market, meaning that opportunities will be short-term, lasting a few days or weeks. Even demand for commodities in China is softening significantly. For the foreseeable future, deflation is the concern of the world's central bankers. What an amazing turnaround, given that just 5 months ago, we were concerned about rapidly-escalating inflation!

China Industrial Output Falls More Than Expected

This is a significant headline, since many had considered China's industrial engine to continue to fuel global economic growth. I always thought this was a silly argument given that China has built its economy on exports. Without those exports, where will the growth come from? Despite the economic stimulus of the Chinese government and their focus on building infrastructure, I don't see that alone as being enough to power global economic growth, except for some construction, infrastructure, and limited commodities companies. Still, any economic stimulus is welcome relief during tough times.

Monday, December 15, 2008

More Forecasts for Cheap Oil in 2009

“Heading into 2009, we believe many commodity prices are set to overshoot to the downside in response to the worst downturn in economic activity since the Great Depression,” said Deutsche Bank analyst Michael Lewis.
“2008 will go down as one of the most volatile and difficult years, ever” for oil, said Peter Beutel, analyst at energy consultancy Cameron Hanover.
“It was a year that started with runaway prices and all the makings of the worst inflation in nearly three decades. It is ending with imploding deflation and the worst recession in seven decades,” he added.
Merrill Lynch expects oil prices to average 50 dollars a barrel in 2009, as energy demand shrinks in the face of slow economic growth.
Deutsche Bank predicts average prices of 47.50 dollars in 2009, cutting its earlier forecast of 60 dollars.
Merrill Lynch commodity strategist Francisco Blanch said a rebound in crude prices was not on the horizon.
“With demand vanishing across all key oil consuming regions, a strong rebound in prices in the first half of 2009 is unlikely,” Blanch said.
Deutsche Bank's Lewis agreed, adding: “We expect energy and the industrial metals prices will remain the major casualties in this environment.”
I am not sure where to attribute the above quotes. They provide perspective on the dire nature of the economic malaise, but these investment banks don't have a particularly strong record of forecasting the price of crude oil, so I always take them with a grain of salt. Still, they provide perspective on the fundamentals of crude oil supply and demand.
As I have told myself many times:

"Predicting the future is for
prophets, not profits."
At current price levels, demand decay isn't the only factor affecting crude oil prices. Production levels are also falling rapidly even within the United States.

Grains GIve Up Gains

Corn closed flat today, giving up the overnight gains, probably on stock market weakness. Wheat closed up, but modestly. Soybeans closed down. This seems somewhat bearish to me. I had hoped that we finally broken away from the link to equity markets that has prevailed over the past few weeks/months. Apparently, weak demand imposed by a weak economy still bears sway in the food commodity markets.

Fresh Perspective on Crude Oil

John Mauldin always has a very interesting perspective on all things financial. He often includes in his newsletters the writings of other people with important perspectives on the financial markets. This week's newsletter from John had an interesting perspective on crude oil. Here are couple of short excerpts as a teaser to read more:

" for oil is very tight. Oil producers are leasing very large ships to store excess oil, as they cannot find places to store it on land. Storing oil on ships is expensive, so that cost of storage gets figured into the price of oil a year out...
"The OPEC nations are not cutting back by any significant amount. Oil is backing up in the system. It is quite possible that oil could go a lot lower in the next few months as the world reels from a global recession, and that means the demand for energy will be down. Oil below $30? Without production cuts that is certainly in the realm of possibility."

You can read all of John's latest newsletter by clicking this link. Better yet, why not subscribe!? John's weekly newsletter is free, and it is always good reading!
Note: Oil is not something that can be turned on and off like a spigot. It is my understanding that once a well is drilled, the oil must be used or stored someplace. You can't just turn the wells on and off at will.

Does This Look Like a Bottom to You?

This is the daily chart for corn. Does it look like a bottom to you? Despite the mild sell-off at the open of the market this morning, corn still looks like it will hold most of the recent gains, including overnight. Sure looks like a bottom to me!

The Fed: How Much of a Cut?

Perhaps the relative calm and low volatility in today's stock market is related to anticipation of the Fed rate decision this week. Will the Fed cut .50% or .75%? Since a cut is considered to be a certainty, it is likely that the market will react more to the statement than the rate cut itself tomorrow.

Empire State Index Drops to New Low

New York's Empire State Index dropped to a record low of -25.8, after reaching a previous low of -25.4 last month. The index is an indicator of manufacturing activity in the Northeastern region of the United States. Any reading below zero represents a contraction in manufacturing activity. Stocks have shown weakness today as a result, but the Dow is off less than 100 points since Friday's close. Still, after rising nearly 100 points last night, stocks have given up all their gains and more so far today. I have found that if stocks decline less than 100 points following bad news, there is usually a good chance that they will recover. Unless more bad news comes out today, the dip is not that significant to me.

Eric Hovde: 3 New Shoes to Fall

Eric Hovde, one of the investment managers that I most admire, has predicted, along with Meredith Whitney of Oppenheimer, that there are additional shoes to fall that may create new risks in the financial markets. Whitney has predicted an additional 20% drop in residential real estate values in 2009. Hovde warns of the following shoes yet to fall in the near future:
  1. Commerical Real Estate - as businesses begin to feel more and more of the effects of the recession, commercial real estate mortgages are showing starkly rising default rates. This growing risk could affect $4 trillion of commercial real estate loans during 2009.
  2. Corporate Loans - As earnings continue to be revised downward in what could be an endless spiral, corporate debt defaults will continue to rise, business bankruptcies will rise, and the result will be growing risks to the financial system.
  3. Municipalities - With the downward deflationary pressures on real estate values, property taxes will need to be revised downward to compensate. There is a delay of about 18-24 months before municipalities are hit with the lower tax revenues resulting from reduced property value assessments. This will result in significantly lower revenues to cities, counties, and state governments, and will lead to another round of lay-offs as government entities are forced to slash budgets and payrolls during 2009 and 2010.

Trichet: Easing Cycle Ending

Jean-Claude Trichet seems to have signalled an end to the rate easing cycle of the European Central Bank, causing the Euro currency to strengthen over the past week or two.

Meanwhile, traders of Fed Fund futures are suggesting the possibility that the Fed may slash interest rates this week from the current 1% to just .25%. This would peg the interest rate for the Dollar at the lowest among the G-10, setting up a potential for a Dollar carry trade. This can only hurt the Dollar and stoke fears of renewed inflation.

Dollar Continues to Fall, Commodities Continue to Rise

At the start of the new week, the Dollar has continued its slide that prominently manifested itself last week, and commodities have continued to rise. The link between the fate of the Dollar and commodity prices should not be underestimated despite denials from some politicians and a few members of the finance industry. Those in denial have a vested interest in keeping the fox in the Dollar henhouse.
Grains have risen with particular strength overnight, and crude oil has continued to build price strength as well, despite weakening demand.
This chart of crude oil overnight is symbolic of the phenomenon that is beginning to emerge, signaling what may be an end to the deflation of the commodity bubble. Note that while this is not the front month contract in this chart, crude oil is now priced at nearly $52/barrel, after reaching a nadir price of about $40.50 only about ten days ago.
I expect weak demand to put a lid on the upside potential for many commodities, but the bottoming process for commodity prices appears to be solidifying. Deflationary pressures won't end soon unless global economics rebound quickly (not a likely scenario, in my humble opinion), but physical commodities have a tendency to form rather firm, flat bottoms. If the Dollar continues to weaken, however, that ugly word "stagflation" will find itslef prominently on the lips of pundits again very soon. Obviously, each commodity has a distinct flavor in the process, but in a general sense, as a class, commodities are showing strong signs that the bottom has been found.

Tentacles of Madoff Losses Reach Far and Wide

I am not going to mention the Madoff fund losses to any significant degree here. However, it appears that the potential impact of the Madoff scandal may have even broader implications as the scope of the collapse widens. It may have greater impact on many more companies, pension funds, banks, etc. than is currently known. Each day, as more names of companies, people, funds, and institutions are revealed, I grow more surprised and alarmed to learn how broad and numerous the affected parties are.
The ripple effect of this fund collapse may yet reveal its most devastating consequences as those ripples move outward. This story should be watched, as the potential on derivative instruments and counter-party risk could still have even more devastating consequences as time moves forward. This has the potential to be a hidden time bomb whose worst victims have yet to be revealed. Many of those victims ultimately may even be people, companies, and institutions that never even had funds in Madoff's investment firm.
I'm surprised that so far, the stock market indexes haven't given greater weight to this news. It was certainly a surprise, so no one can credibly claim that it was already "priced into the market". However, it is possible that the biggest, most devastating surprises have yet to be fully revealed.

Sunday, December 14, 2008

Dollar Reaches 8-Week Low on Bailout Worries

The cost of financial bailouts is finally beginning to take a toll on the US Dollar, as the greenback has hit it lowest value in eight weeks. From Bloomberg:

The dollar fell to an eight-week low versus the euro on speculation a U.S. bailout for the country’s automakers will leave the government less money to protect the financial system. The greenback approached a 13-year low against the yen after U.S. President George W. Bush’s administration said it may use funds set aside for banks to prevent General Motors Corp. and Chrysler LLC from “collapsing.”
Here is a Bloomberg story with details.

Not only is the timing of the Dollar's decline very poor for the U.S. economy, it is likely to halt the downward correction of commodity prices, and renew potential inflation worries.

Domestic Oil Production Falls In U.S.

With falling crude oil prices and an Obama Administration that is seen as opposed to more domestic drilling, domestic oil drilling in the United States has already begun to fall even more than expected. Ironically, it is beating down the share prices of drilling companies and sewing fears of potential supply disruptions when the economy begins to recover.

In a surprising weekly accounting, Baker Hughes' latest report showed that the number of drilling rigs in operation has fallen 12% in the September to early December period. Last week, crude oil rose for the second in three weeks, and volume-based indicators have now reversed to the upside. (I use these volume indicators as a leading indicator that typically reverses before prices do.) While OPEC's announcement last week that it will "severely" curtail crude production was blamed for last week's rise in prices, apparently the lower price is beginning to scrimp supplies domestically, also.

Can a GM Bankruptcy Be Averted?

From Bloomberg:

"For General Motors Corp., the question is no longer whether it will get a government loan or if Chief Executive Officer Rick Wagoner will be replaced. It’s whether anything can prevent the largest U.S. automaker from sliding into bankruptcy... GMAC may now have to file for Chapter 11 protection, with or without a loan...'GM already is bankrupt and should file for bankruptcy,' said David Littman, senior economist for the Mackinac Center for Public Policy..."

Read the entire story here. (It is a rather lengthy article that explains GM's history in arriving at this sad crossroads.)