Friday’s Thoughts For 10-26-2012

Up to this point in time, this marketplace has been a gigantic suckers rally in my opinion, but one I wished I had been fully invested. Back in May, 2012 it was absolutely certain the markets were going to fall, but the QE hopefuls won out with QE3 (and beyond) pushing the markets a bit higher. All of these gains, however, were built on a scaffolding made of ‘match stick’ Hopium. Now that QE 3 has been implemented and a little time has passed, it now appears that it won’t be enough glue to hold the ‘match stick’ framework together much longer as it wavers in the winds of change. But then did you ever expect it to work?

As we watch the averages start to slide on that slippery slope of poor financials, excessive debt and Eurozone instability one can only wonder why this unstable framework hasn’t collapsed sooner. Even today’s (10-26-2012) better than expected financial reporting isn’t going to be enough to stop the ultimate slide.

There are a lot of reasons why the markets have stayed afloat, the Quantitative Easing being suspect number one and liberal doses of ‘Hopium’ from the eurozone being another.

The ‘hopium’ that has been lubricating the markets unabated climb to new highs is starting to wear off. This last week alone we have seen the beginning of a plunge many bearish pundits have been predicting for months. Every week more evidential data-points are being collected pointing towards a collapse sooner rather than later.

This week has provided dramatic evidence of market vulnerability to seek out new lows as trade data, Corporate earnings and World accumulation of downright poor financial outlook pours in.

Steven Hansen points out financial stability is not so robust as one might imagine, but finding a single issue to a financial Armageddon in the US is difficult. But on the other hand, it is relatively easy to see the problems spreading across the EU. The question from some is how will they effect the United States fragile recovery? Personally, I think they already have and we are beginning to see proof in the multinational corporation less than stellar earning reports.

Trade Data Is Showing Nasty Economic Trends by Steven Hansen

“One does not have to cherry pick the data right now to make a case the economy is sucking swamp water. On the other hand, there remains no smoking gun showing the economy has slipped into a recession.“

However, there is even more evidence that the US recovery is not doing well in that capacity utilization is moving in the wrong direction. This, along with other data-points suggest the rally of late has been misplaced and judgment time is before us.

Last Macroeconomic Data Before Election: Not Good by John M. Mason

“. . . the growth of industrial production in the United States peaked in 2010 and has been relatively stagnant ever since. This year, industrial production averaged a 4.5 percent growth rate in the first quarter, rose to 4.8 percent in the second quarter before falling to a 3.2 percent rate in the third quarter.

These are not the kind of figures that indicate the economy is beginning to pick up steam. Furthermore, the capacity utilization of American industry was at 78.3 percent in September, up from 78.0 percent in August.

Capacity utilization is moving in the wrong direction for a strong recovery. Putting this into the longer-term context, however, we see that capacity utilization continues to trend downward over time.”

So why has this marketplace continued to march forward and upward for the past year in what some call a ‘Twinkies Market‘? Partially it has been the effects of government manipulation, i.e. QE’s and ‘Twists‘. The underlying hand has been the HFT algo computers currently accounting for 70% of the volume activity and what Michael Harris calls ‘Strong Hands’ shearing the ‘sheeples’ out of their money.

On Wednesday’s Midday Market Commentary, I wrote about Michael Harris of PriceActionLab.com and his article entitled, Bears May Get Fooled Once Again and Get Crashed where he writes “This is not a market for technical methods of the past century. This is a market for true believers in the ability of strong hands to squeeze out weak hands and speculators.”

He goes on to say that “fast short-term traders and strong hands are profiting at the expense of those who use old methods to spot a trend reversal.”

But there is a problem with his reasoning and I am not fully in this camp as I see technical flaws. This approach isn’t necessarily transferable to other ETF’s thus quantifying his hypothesis. If his supposition was true, we would not be seeing the markets descending like they have been doing for the past week.

There is more to the recent declivitous activities of the averages, some it insignificant or at least by themselves, irrelevant. Consider this little piece of the puzzle. We have talked endlessly about trends and what to do about them. Kurtis Hemmerling said, “what worked best was a simple trendline and a couple moving averages as possible pullback zones for a bounce. The rest was fighting my emotions, over-trading, and making stupid moves trying to win back losses. Use what works for you though”.

This trendline chart is interesting and needs to be studied. Could it be true the time to descend has now been predetermined and if true are we are headed for some more downside. I think that is over simplification of course, but does have some merit as does all of the other signs of a deteriorating World economy.

We, as investors, have been having a tawdry affair over the past several years writes Eric Parnell in his article below. He outlines what is probably the probable outcome of this tenuous relationship investors have enjoying since the market hit rock bottom in 2009 and it is not a pretty picture. The ‘tooth pick’ foundation as I like to call it, is not on solid ground and looks to be crumbling.

50 Shades Of Stock Market Grey

Investors and the stock market have been bound in a tawdry affair over the last several years. But like so many relationships marked by heightened tensions and unpredictably dangerous behavior, investors risk a most tumultuous ending from this ongoing entanglement.

Unfortunately, the rally that has brought us so far back to near previous heights is without any solid foundation. Back in early March 2009, the following significant concerns had the market transfixed in fear and provided investors with the justification to push stocks to uncomfortably lower bounds:

• Excess debt and leverage across the global economy

• Uncertainty over the implications of unprecedented monetary policy actions

• Potential instability in the eurozone due to countries with vastly divergent fiscal circumstances sharing the same monetary policy

• Threat of a tax increase on high income earners to try and offset ballooning budget deficits

• Potential calls for protectionism in order to promote domestic economic activity

• Risk of the flow of global credit drying up

One would likely feel comforted today in a stable and sound relationship with stocks if meaningful progress on the above issues that helped drive the market to March 2009 lows had been addressed along the way.

Unfortunately, virtually none of these conditions are better nearly four years on. Instead, the situation has actually unraveled even further. . . many of the prevailing concerns at the March 2009 lows . . . remain unaddressed. In short, none of the key concerns that drove stocks to their March 2009 lows has been fixed. Instead, most have become much worse and the remaining few that have not are still at extreme risk of deteriorating.

Yet despite the fact that what once were worries have now in many cases become realities, we have a stock market that is thrusting its way toward all time highs.

If you still believe this weeks decent is just a ‘bump in the road’, as many bullish pundits want you to believe, then consider the recent ugly earnings season.

@zerohedge:

Q3 Earnings Season To Date Summary: Ugly… And Getting Worse

Roughly one third of the S&P has reported earnings so far, with another third reporting in the next five days and almighty AAPL on deck Thursday evening, and if there is one word to describe what has happened so far, that word would be “ugly.”

The same word would be used to describe how Q4 is shaping up to be. And that word will be very a optimistic prediction of what 2013 will bring unless a major catalyst develops that pushes Congress to resolve the fiscal cliff situation.

So far that catalyst is missing. Sorry Bob Pisani, better luck spinning earnings favorably next QE.”

As I draw this tome to a close, let me carve one more notch in the gun handle. John M. Mason has written an article that clearly points out how the US multinational corporations are going to suffer more as the EU descends further into economic bliss.

European Economic Conditions Worsen: Not Good For U.S. Firms

One of the major things to note in the earnings reports of many United States companies is the weakness they are feeling from revenues received outside the United States, especially from Europe. And they are projecting continued weakness into the future.

The Purchasing Managers Index (PMI) for eurozone manufacturing and services dropped to 45.8 in October from the September level of 46.1. Note that anything below 50 represents a contraction. So, dropping further below 50 means that the contraction is getting more severe.

Some pundits are now calling for a weak third quarter and from there, the economy will improve. I have a great amount of skepticism for any glowing hopes for a serious recovery, for at least another year, as there are too many sobering financial issues both in the EU and the rest of the World that have to be addressed. And then the time needed for any fixes to take place.

Sheraz Mian writes, “The expectation is that after a weak third quarter, earnings growth will resume in the fourth quarter and beyond. I am skeptical of this notion and expect significant downward revisions to current expectations in the coming days. The question is whether Mr. Market will ignore those negative revisions or finally start taking note.”

In conclusion, I feel that Mr. Market has taken already notice and will provide a clearer picture of the future shortly. There is little Obama, Ben Bernanke or Romney can do at this point to stop the eventual slide. This has been the longest suckers rally in history. The truth is that I am sorry I didn’t participate in it longer. One of the keys to success in this business, writes David Moenning, is to understand what type of environment you are in and that is where we are now.

The stage is now set, maybe I am the sucker. That is my opinion and I welcome yours.

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Written by Gary