Economic Outlook, Current Conditions and Investment Strategy

It should be rather clear to the everyday investor that the market has reached the bear market rally top (I can't imagine the Dow advancing past $10,500). Therefore, the way any investor should approach entering the market should be drastically different from 3,000 points ago. For those who have read my previous articles, you know I'm convinced inflation will only augment the resumption of the commodity bull market for the second leg (and likely decade) of this 15-20 year bull market.

In my opinion the window of opportunity has closed temporarily (at least with regard to high quality equities trading at enormous discounts), altering my strategy at least until a meaningful correction has taken place. The rationale behind a more than likely correction can be found in previous articles

My Current Strategy:

• Go short the major market indices using ultra short (be cautious with regards to your choice in hedging instruments especially double or triple inverse equities) call options, expiring in March 2010 or later. SDS and DXD, are my preferred vehicle and a substantial amount of downside protection makes these portfolio hedges very attractive as the markets test 52- week highs.
• Sell Long term GLD call options - which provide a hefty premium if you go out 6+ months. Though I believe the long term trend in Gold is much higher, it has gone up day after day making me think a 5-10% pullback is in the cards. Due to the sensitivity of long dated options a 5-10% movement will allow you to buy back the written calls at a much cheaper price. To be prudent but still collect the premium, use between 25-50% to buy out of the money GLD options (shorter dates) or GDX options, which tends to move 3 - 4x as much as the underlying commodity (gold).
• The name of the game now is to protect your unrealized gains/losses, while using various hedging instruments to increase the size of the long positions in one's portfolio should this correction occur. Even if my forecast turns out to be wrong, these are exactly the times where protecting yourself on the downside far outweighs the additional 5-10% or so one may be able realize on the upside.
• The economy continues to worsen, making it more likely that various assets (some more than others) can be had at bargain prices. I would expect this to continue in the oil complex the most due to the fact that negative economic data will make market participants assume the price should fall due to a fall off in demand. 10.2% unemployment, GDP consisting of nearly 40% of non-recurring items & the apparent realization by the Fed that the economy is still on the brink of collapse (record reserves being pumped into the system week after week, which is likely a pre-emptive move by Ben Bernanke to prevent a solvency crisis that could hit at any moment) while maintaining record low interest rates. Even if the economy has growth below 1% (though the numbers say 3% GDP growth in Q3), couldn't the Fed raise rates to .5% or .75%?
• I am keeping 10% or so in cash, that way after a correction has occurred and you sell your hedged positions, you can accumulate equities selling well below intrinsic value, and do so more aggressively (depending on how big the degree of the correction is).
• Aside from equities - Futures should also provide great entry points, though the window of opportunity will not be open nearly as long as that seen in 2008. I will be looking to add to my wheat and silver positions, among other commodities if the price is right.

The preceding is solely the approach I’m taking at the moment and am not recommending others to follow suit. Given my exposure to the precious metal miners, oil companies and to a lesser degree agriculture, I find the aforementioned strategy appropriate.

2010 Forecast:

· Dow testing the 7500-8000 level
· S&P testing 700- 775 level
· Oil going back to the $100-$120 level towards the latter half of the year but not before testing the mid-60s
· Gold will have seen triple digits for the last time after the first half of 2010. Gold will also make record high between $1300- $1500.
· Silver will trade higher on a combination of higher investment and industrial demand. I expect silver to average $22/oz-$25/oz
· Another financial crisis plagues an already frail banking system leading to bankruptcies for many regional banks while the large money center banks will remain capitalized, courtesy of the Fed.
· Unemployment reaches 11% – 13% and 25% if you include discouraged workers (how they calculated unemployment pre-Clinton era)
· Foreigners catch onto the fact that the US will never repatriate their debt (either via an outright default or through inflation), refusing to buy any more US debt securities, causing the Fed to monetize the debt via treasury purchases. This will likely happen towards the end of the year and far exceed the $300 Billion announced earlier this year. This spills directly into the money supply, sparking inflation expectations.
· Another Stimulus is introduced
· Deficit Spending is far greater than originally forecasted.

2011

· Gold reaches $1750-2000/oz in the latter half of the year
· Silver averages 34 – 37/oz
· The USDX reaches an all time low in the mid – high 50s
· Major Market Indices are driven more by the debasement of the USD than by real economic growth.

Timely economic forecasting is very difficult to do but extremely important. That was my best case scenario based on all the damage we have done to our currency (stimulus, low interest rates, debt monetization, purchase of worthless mortgage back securities, deficit spending, other toxic commercial paper, defense spending, unfunded healthcare liabilities) etc. and economic foundation, (i.e lack of savings promoted by artificially low interest rates and the exportation of our manufacturing base).

If you buy into the inflation story, many gold and silver miners are still trading at bargain basement prices. The same goes for many oil equities (though they tend to be more accurately price at the moment).

Disclosure: Long SDS Calls, DXD Calls, Wrote GLD Calls, Long GDX Puts, SLW, RGLD, RBIFF.PK, FRMSF.PK, KGILF.PK, AUY, JAG, CDE, SSRI, TLM, SU, PGH, ERF, PWE

Comments

[chris coonan:]

With Wally, Walmart in a hostile takeover of Target....should be an interesting week or two.

Nov 09 09:09 AM

[dlweld:]

LOL - amusing typo - I'm sure you meant: "The author of this comment is an idiot". Well, better luck next time.


On Nov 09 10:24 AM Rhino wrote:

> The author of this article is an idiot.

Nov 09 03:07 PM

[Kimball Corson:]

Have you heard the maxim the trend is your friend. Fight it and die. You must have been clubbed today.

Nov 09 07:42 PM

[Hyperinflation:]

Yeh wasn't expecting the rally to continue, but my strategy isn't one that incorporates day trading. I was actually pleased with today's action as my largest position >22% reached a 52-week high, and is up over 4 fold in 12 months. After the Dow crossed 12k on the way down after a brief rally, I took the same approach (selling calls and going short the market indices, which worked out well).

-I'd rather make 80 cents on the dollar if the market continues to rally than lose 1 for 1.


On Nov 09 07:42 PM Kimball Corson wrote:

> Have you heard the maxim the trend is your friend. Fight it and die.
> You must have been clubbed today.

Nov 09 08:33 PM

[capt Brian:]

Read my old articles, and comments, and I am even more moving out of dollars and even out of PM's and into numismatics, I bought scrap metal with my dollars, traded up to nice krugs, eagles, etc, and am now trading (almost all gone now) for numismatics. This market cannot continue to ignore reality, and MUST correct, I have only "day trade" stocks, [meaning I am very short term] and buying DUG at every pinnacle for oil. Keep your shorts dry [meaning get them ready] and suggest a 2nd look at weath storing. Forget Art, Antiques, and Real Estate, the old by-words for savings. Those markets are dead for the forseable future, but precious metals and even more numismatics 'travel well', if you get my meaning.


grins to ya

Capt Brian
the Lost Navigator

Nov 09 09:34 PM