Reflation Supported by Stocks, Commodities and Oil

Last week in Gold, Recessions, Bonds, and 1987, we stated that:

• A major objective of all the money printing, government intervention, and low interest rates is to create positive inflation, which includes asset price inflation.
• Asset inflation helps heal sick balance sheets and repairs a portion of the lost "wealth effect".
• When gold lies dormant, it means reflation is not working all that well in the minds of market participants. Gold’s recent breakout may indicate that the entire reflation of assets is working (in the minds of market participants - they fear future inflation caused by money printing, intervention, etc.).

Crude oil also can lend support to the relation case as market participants look for ways to protect purchasing power and profit from slowly improving fundamentals. Thurday's Energy Department report showed an unexpected decline in U.S. gasoline stockpiles, giving the bulls some fundamental backing for buying energy related commodities and stocks. Regardless of whether or not crude oil can hold the recent breakout as of the close Friday, the primary trend for oil will remain up.

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The CRB Index is a basket of commodities including, but not limited to, copper, sugar, heating oil, wheat, live cattle, cruse oil, platinum, natural gas, and soybeans. The CRB Index also experienced a breakout this week contributing to bullish reflation trends evident across many markets.

Earnings Do Not Spoil The Party In Stocks: As earnings season rolls on, the S&P 500 will be trying to hold above its 89-week moving average (green line in chart below). As of Thursday’s close the 89-week stood at 1,066.83. As you can see in the spring of 2008, the 89-week acted as resistance. A sustained break above 1,066 would provide some support for the current bull market (resistance becomes support).

Numerous Fundamental Concerns Remain: We often say:

We will expect to see more of the same (bullish trends, higher highs, and normal corrections), until we see significant evidence to the contrary.

We did not become bullish earlier this year because we do not understand the problems of the day. The market became bullish. When we observed evidence contradicting the formally bearish trends, we became bullish. We remain bullish, but maintain a fairly high degree of uneasiness and skepticism regarding a sustained long-term bull market. We are concerned about valuations, especially if earnings do not materialize and as we move closer to 1,200 on the S&P 500. We are also concerned about banks and looming problems with commercial real estate. We are monitoring market sentiment looking for excessive acceptance of a new bull market. We are concerned about excess capacity throughout the economy (from hotel rooms in Vegas to condos in Miami). As a result, all markets need to be monitored closely. There is a fine line between staying with a profitable trend and ignoring clearly bearish signals. At the present time, we do not see many bearish signals, but in the long-run it pays to be aware of what could go wrong even while things are going right. For now, the bulls remain in control of almost all markets. We expect more of the same until we see something different (bullish trends, higher highs, and normal corrections).

Disclosure: The author and CCM clients have numerous positions, including exposure to U.S. tech stocks, foreign currencies (long and short), emerging market stocks, foreign bonds, and commodities.

Comments

[JG Savoldi:]

Our model obviously disagrees with the idea of reflation.

This is an epic deflationary spiral and the idea that global governments can turn it on a dime seems absurd. Even if we didn't have our model's message to guide us, we'd be bearish here based on simple common-sense.

We've been wrong--didn't expect the latest higher-high in the stock averages, but we've been here before at extremes and we believe the BAM Model will, once again, guide us to the safe harbor while others are swept into the rocks.

Only time will tell but if we're going to be correct on our call for a 22% October crash, the wheels will fall off immediately.

Well thought out article though. Thanks for the perspective.

Oct 16 09:30 AM

[DaveW:]

Chris,
you took a lot of heat in early-August by calling people into the market at S&P 1000. A good example of trading what you see and not trading what you feel. In hindsight, we now know that this rally 'engine' has been powered not only by MM's like yourself, but backstopped with .gov 'nitro-fuel'. The kick-the-can approach by our leaders has created a dangerous market: dangerous for bears as it could go to 1200-1300 from here, dangerous for bulls as a real crash risk is increasing. But, there I go again, basing my investing on how I feel, not on what the charts are saying. At any rate, hats off to you for taking the heat and standing by your training, experience and conviction - you are wealthier than I since August.
Best of luck,
Dave

Oct 16 05:58 PM