Bits and Pieces: The Current State of Markets

by: The Hard Trade

Bits and Pieces ...

That’s what the current market feels like, albeit big bits and huge pieces. I’m referring to the bits and pieces of news that are coming from around the world on the political, economic and regulatory levels.

Let’s start with the dramatic. Pictures of Greece are making their way around the world, and videos of Greek police beating demonstrators can’t make Greece’s German backers happy. Trichet is not being forced off his inflationary horse and the inevitable may finally be upon us: The eurozone countries are in deep trouble. Rumors of Greek default send the euro from 1.48 to 1.41.

Click to enlarge

On this weekly chart, we can clearly see the outside bar (last week) and the continued weakness this week. Just like the last time around, Greece is only the canary in the coal mine. Portugal and Spain will be tougher to handle and to cover up. This, of course, comes just as the hyperinflationary crowd was the loudest.

I continue to maintain that the euro and yen are the two most vulnerable currencies in the world right now, because once they break, the money flows will be larger than any we have witnessed since the Asian financial crisis in 1997-1998. This, in turn, is positive for both the USD on a relative basis, and for precious metals. In fact, it is not the U.S. that is at risk of facing inflationary pressures, but Europe and Japan. For the latter, it will be a pyrrhic victory; for the former, it will result in increased social unrest, and eventually, the complete reorganization or abandonment of the euro.

Staying on the political front, before moving on to the economic and regulatory news front ... Does anyone remember that there are protests in the Middle East? Moubarak is one happy camper these days. The developed world let him retire to some chalet with his umpteen billions, and he no longer has to worry about his day-to-day survival (except threats from natural causes, that is). Meanwhile, back in his home region, Assad is looking around and asking how his dad dealt with protests. And just like in dad’s times, protests in Syria are being met with an iron fist. But fear not, I’m sure Syria will soon be elected as the leader of the UN Human Rights Commission, just like Sudan was.

What are the implications of Middle East unrest? For starters, energy volatility. More on that later. For now, we’re just collecting the bits and pieces.

For the moment, let’s move to the economic news of the week. In no particular order:

Housing sales are up, but prices are down significantly. News of a recovery in real estate are 15% or more premature, but rising rents, especially in the residential sector, are encouraging. The commercial sector is about to face its worst case scenario if I’m right and margins get compressed and rates rise.

China is slowing down. Anyone disputing it? Maybe the Chinese. Actually, they’re helping the slowdown. The Chinese government has to make a choice: Face increased inflationary pressures (and the ensuing social unrest) or orchestrate a recession/slowdown/popping of the real estate bubble (and face the ensuing social unrest). Smartly, they are choosing the latter, because rich speculators getting burned tend to not overthrow governments, whereas poor people who can’t buy bread will.

The price-to-rent ratio for U.S. housing came down as CoreLogic reported prices are now 4.6% below 2009 lows. The fact that VNQ is yielding only 3.3% is at least one sign that we have a ways to go down before real estate is at attractive levels.

So let’s talk regulatory, because this is where the interesting stuff is happening. We have exchanges hiking margin requirements, first on silver, then on commodities around the world. First, take a look at silver (daily):

Click to enlarge

Silver was at frothy levels to begin with, and we sold out of it in the $43 range prior to all the hoopla in margin requirements. Silver is down 20+%, but that is back to its March levels. In fact, even if it went down another 10% or so, it would only be back to its January levels. That doesn’t seem so far-fetched to me and it certainly doesn’t tell me that the margin hikes broke the back of speculators. If anything, the hikes are serving to shake out levered fast money, but should help set up the next phase of the precious metals bull market.

What about the other commodities? This week the story is oil.

Click to enlarge

From $115 to $99, or about 14%, and again, taking us back to mid-March levels. When oil was at $85, politicians were worried about the impact high oil prices would have on the fragile economy. Are we celebrating $100 now? Has anyone noticed that prices at the pump barely budged and probably won’t in the near term? In fact, given the rout in commodities globally, slowing Chinese demand, and a hostile regulatory environment, I think oil and the energy complex in general are holding up eerily well. Which just leads me to conclude that the fundamental reasons for owning energy (Middle East turmoil, increased nationalist policies and devaluation of global currencies – even if the dollar rises in relative terms) are all still in place. Our main holdings (FCG, KOL, NLR) have come down some, but I continue to be confident in the underlying fundamentals of owning them.

Disclosure: I am long FCG, SLV, KOL, NLR, EUO.