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Greg Sommer
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Portfolio Manager in Silicon Valley, CA.
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  • Up, Down, Sideways? 0 comments
    Jul 17, 2012 12:48 AM

    It has been a while since I have written an instablog post and the market has gone through some major changes. First a large sell off due to the European debt crisis, a weakening Euro and subsequent sell off. The market then experienced an incredible rally with some resolution to the European crisis but as it proved, European leaders just kicked the can down the road so to speak.

    Now we are well off the highs of the rally due to economic uncertainty, political uncertainty in the U.S., re-emergence of European woes and slowing global growth. We have rebounded slightly after testing the 1275 breakout. Now we are trading sideways in a very wide upward channel. See below;

    (click to enlarge)

    There are really only two scenarios that can come out of this sideways choppy action. Option 1 entails some rebound in economic activity, an "end" to or at least some important steps in ending the European crisis. The Euro has taken a nose dive vs. every major currency which in turn will help boost European exports and hopefully support the Euro region. This is an excerpt from a WSJ article, "The Euro-zone trade surplus jumped to €6.9B in May from €3.7B in April, coming in higher than forecasts of €4B. Exports climbed 6% but imports stayed unchanged from a year earlier, indicating how domestic demand continues to be weak."

    If we get better data and some clarity on the direction of the economy we could see a return to this years highs. Another consideration is where risks lie in asset allocation. Fixed income investments yield very little and the bonds are being refinanced at lower rates due to extended Fed Policy. If the market moves higher there is higher risk fund managers will miss or be chasing a move higher.

    (click to enlarge)

    The second option entails further deterioration in the economy both domestically and globally. China growth slowing and the European recession could have a larger impact on other economies than we realize. Economies around the world are more correlated than they were 30 years ago so recessions do have contagion effects. A second consideration is the looming 'fiscal cliff' at the beginning of next year. Approximately $560 billion in tax increases and spending cuts has the possible outcome of putting the U.S. back into recession. J.P. Morgan has estimated it could cut 3.5% of GDP out of the economy. The Obama administration and the house has repeatedly shown they are unable or inept at formulating sound policy for the U.S. people. U.S. government and political in-action probably plays one of the biggest roles in hindering growth and prosperity. I think this scenario plays out as a rounded top and we see the bottom of the up-channel. Most likely at that point the uptrend won't even act as support.

    (click to enlarge)

    The best thing to do in this environment is to stay liquid and be able to move into cash relatively quickly.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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