Everything You Wanted To Know About This Week's Market (But Were Afraid To Look At Too Closely)

by: Richard Gorton

Stagflation, it's a fiat wealth killer: Headline inflation is rising while jobs, manufacturing production, real estate, and economic indicators are falling: stocks and bond wealth of all types will be turning down in value.

Stagflation in the US

I choose to believe as HousingPanic does, that it's hilarious to believe the Government's inflation report which showed nearly 0% inflation.

  • Manufacturing is ``still struggling, is the best way to put it'', Christopher Low, chief economist at FTN Financial in New York, said in a Bloomberg Radio interview.
  • The industrial production report showed factory output, which accounts for about four-fifths of industrial production, slumped 0.8 percent, the most since September 2005, after no change the prior month.
  • Deere & Co. (NYSE:DE), the world's largest maker of tractors and combines, yesterday reported second-quarter profit grew less than analysts estimated because of a 7.2 percent drop in demand for construction equipment and rising raw-material costs.
  • Industrial capacity utilization was estimated to fall to 80.1 percent from 80.5 percent, according to the survey median.
  • Motor vehicle and parts production plummeted 8.2 percent following a 4.3 percent decline the prior month, the report said. Autos were assembled at an 8.3 million annual pace last month, the fewest since a strike-depressed 8.2 million in July 1998.

Stagflation Globally

  • Ambrose Evans-Pritchard reports that price pressures across the emerging world are reaching levels that may soon threaten stability unless governments jam on the brakes. Inflation rates have reached: Venezuela (22pc), Vietnam (21pc), Latvia (18pc), Qatar (17pc), Pakistan (17pc), Egypt (16pc) Bulgaria (15pc), The Emirates (11pc), Estonia (11pc), Turkey (9.7), Indonesia (9pc) Saudi Arabia (9.6pc), Argentina (8.9pc), Romania (8.6pc), China (8.5pc), Philippines (8.3pc), India (7.6pc).
  • The closely-watched gauge -- known as the Composite Leading Indicators [CLI] -- has picked up a sharp deterioration in the eurozone in March, notably in Italy and France where the advance signals are falling even faster than in Britain. The measure tends to anticipate the industrial cycle by about six months.
  • While growth continues to power ahead in most emerging markets, rampant inflation is starting to damage business confidence. The latest data point to a potential downturn in the BRICS, EEB, Brazil, China, and India. Russia is the only country still in full boom among the so-called BRIC quartet of rising powers, but the country's inflation rate reached 14.3pc in April as oil and gas wealth the flooded the economy. The chart on the right shows the downturn in the BRICS and in Italy (.

EuroZone Has Been Split Asunder By A Higher Yen

  • The Euro Zone has literally been split in two by a stronger Euro, with Germany (NYSEARCA:EWG) manifesting above its 50-day average. The chart of the German shares shows that liquidity flowed globally into this 'world class manufacturing powerhouse'; share re-liquefaction came from TAF, TSLF, and PDCF dollars in the west, and from Yen Carry Trade dollars from the east.
  • In contrast, Italy (NYSEARCA:EWI) is languishing below its 50-day average. Whoever would have thought that this "investor's dog" would have recovered as greatly as it did, compared to Europe's "investor's darling" Germany? Of all the Euro Zone countries, Italy is going to win the race to the bottom of financial exhaustion first.

It's interesting that Yahoo Finance shows that the Italy shares trade the same as the Russell 2000 shares; the Italy shares are burdened by a socialist government, which has impeded investment opportunities; and the Russell 2000 shares have been pounded by an insolvent banking sector and a Level-3 asset laden investment banking sector. The Germany-to-Italy difference, that is, the north-to-south, or Germanic-to-Latin, chasm, has been growing; and is holding massively strong as is seen in the comparative chart ().

Interest Rates Are Rising; Bond Wealth Is Falling

The interest rate on the 30 Year Government Treasury Bond, $TYX, is rising and has broken out above its 200 day moving average; this is destructive to bond and stock wealth alike. The 30 Year US Treasury Bond, $USB, which trades inversely of its rate, is falling in value as can be seen seen in yesterday's chart where it fell to its 200 day average.

Commodity prices may be topping out.

They have gone parabolically up; things that do that have a way of going parabolically down.

  • West Texas Intermediate Crude, $WTIC, and the commodities, CRB, may be topping out; if not they are due for some relenting. Natural Gas (NYSEARCA:UNG) may be turning lower. Agriculture prices (NYSEARCA:DBA) shows a bearish engulfing candlestick which possibly portends lower prices ahead.

Stocks that have been in a rally, with a reinvigoration of the yen carry trade, and the Federal Reserve provision of over $100 billion of TAF, PDCF and TSLF facilities, have likely peaked--and yes, I think all, yes all, will be turning down.

We are nearing the end of an eight-week-long rally with the overall stock market (NYSEARCA:VTI) rising above its 200-day moving average. The weekend of March 15-16 was when we learned that Bear Stearns (NYSE:BSC) had gone under, and was being acquired by JPMorgan Chase (NYSE:JPM). Since March 17, the S&P 500 has gained over 10%.

The market has expanded all it can in relation to the financial sector; as seen in the ratio of the overall stock market to the financial sector (NYSEARCA:IYF), stocks have expanded as far as possible on the capital provided by the investment banking and banking sector. It's like a balloon, the stock market can only expand so far, and now it's going to pop-and-drop.

Semiconductors (NYSEARCA:SMH) are always the first to fall and the last to rise: Intel (NASDAQ:INTC) is manifesting the finale of the Yen Carry Trade and TAF Rally. Look at Intel's daily chart (right; click to enlarge). Intel is always manic at the beginning and end of a trading season: the bottom fell out of Intel at the end of last year; and now at the end of this rally, it is spurting up. Said another way, Intel's trading pattern evidences the end of this rally.

This select group of semiconductors shows how dramatically semiconductors rise and fall; and Taiwan Semiconductor (NYSE:TSM) leads the pack now that better relations persist between Taiwan and China; the chart of TSM (click on the link just above) shows a massive ascending wedge, and just now within the last few days, there has been a dramatic fall off in volume; a fall is imminent, and it will be sharp, greatly rewarding those who are short this stock.

The yen carry trade, which is seen in the Euro (NYSEARCA:FXE) and Yen (NYSEARCA:FXY) funds, has resumed at the same time the TAF facility commenced, with the result that the Brics ETF (NYSEARCA:EEB) has soared back up to its previous highs.

The reinvigoration of the yen carry trade has helped Japan (NYSEARCA:EWJ) recover.

  • Brazil (NYSEARCA:EWZ) has been highly favored as a destination for interest rate differential -- yen carry trade investing.
  • China (NYSEARCA:FXI) being part of the yen carry trade favored complex, has seen some recovery.

On to sectors and specialties

  • Transportation (NYSEARCA:IYT) has seen a complete Fib Retracement to its July 2007 high led by trucking firms such as Ryder (NYSE:R) and railroads, such as CSX Corp. (NYSE:CSX). Steel (NYSEARCA:SLX) has been one of the natural resource stocks, and yen carry trade favored investments, as commodity prices have soared fantastically even gapping higher from week to week.Coal (NYSEARCA:KOL) being used for steel production, industrial production, and electricity generation has been soaring, and Friday was no exception.
  • The Retail sector (NYSEARCA:RTH) is the sector that had fallen the most; and it has been the rally's best performer, returning all the way back up to its November sell-off point; retail's dramatic recovery and its rising price on falling volume suggests that the rally for all sectors is now over. Given the overspent, highly indebted, and despondent consumer, the retail sector has reached the point of being overvalued.
  • Small Cap Value (NYSEARCA:RZV) has risen in sideways consolidation.
  • REITs (NYSEARCA:RWR) like retail has really come back, and for a good reason: Investors came back for the dividends, but these having been paid, I expect the REITS to fall fast and hard.
  • The senior housing REITs, such as LTC Properties (NYSE:LTC), are the canaries in the stock market coal mine warning investors to get out, and get out immediately. Last week's lollipop hanging man candlestick, and today's bearish engulfing candlestick in LTC's chart, is clear, cogent, and convincing evidence that this rally is done and over.

More canaries in the stock-market coal mine

An ETF-canary-in-the-stock-market-coal mine is the S&P Midcaps (NYSEARCA:MDY). A look at this chart shows that it always announces dramatic market turns; it did so in July, and October and November 2007, and then again seven weeks ago in March 2008; and it is doing so again now.

The mutual fund canary is the large blend (MUTF:ACEHX) the chart action in warns of an imminent market change, just as it did before in October and December.

My stock canary, that is the one that pops at market turns, is Corning (NYSE:GLW).

Other questionable rallies

Homebuilders (NYSEARCA:XHB) keeps plodding along; it also is overextended -- its chart too, shows rising price on falling volume.

Internet (NYSEARCA:FDN) rose on Google earnings, and now on recovery of Yahoo shares.

Ford (NYSE:F) has been a major rally participant; while General Motors (NYSE:GM), laden with GMAC, GKM, debt and crippling effects of the American Axle (NYSE:AXL) strike has not been a rally participant.

The Dow in its ETF (NYSEARCA:DIA), not in its average, is now pushing higher again, and has grazed a little over 13,000; this serves as strong resistance for further growth.

Energy factors

The natural resource -- oil, gas driven [TSE:HXU], which is 200% of the Canadian S&Ps, has risen dramatically on a soaring CRB.

Energy (NYSEARCA:XLE) has been a stellar and consistent performer. Its doji candlestick signals a questioning marketplace. When one looks at the energy company-to-oil ratio (NYSEARCA:USO), energy companies are not overpriced, so as the market turns lower, these are going to be the ones to retain their value the most.

Energy service companies, such as Schlumberger (NYSE:SLB) are not overpriced; the Schlumberger-to-West Texas Intermediate Crude ratio, SLB:$WTIC, shows the company to be marketplace undervalued.

Some have suggested that if oil falls in price, then the fall of the oil shares will release monies for other market sectors.

Where It Goes From Here

But I do not see it that way, as I believe that the market has expanded all it can in relation to the financial sector as seen in the ratio of the overall stock market to the financial sector. This chart (right; ) shows that stocks have expanded all they can, on the capital provided by the investment banking and banking sector. It's like a balloon, the stock market can only expand so far, and now it's going to pop-and-drop.

Let's look again at the semiconductors. The rising price on falling volume in the semiconductors shares is terrifically bearish. Semiconductors will not be picking up the slack should the energy shares fall; instead, semiconductors will be dropping like a rock.

The stock market is going to now be dragged lower by the mortgage-laden ones: Fannie Mae (FNM), Freddie Mac (FRE), Bank of America (NYSE:BAC), Citigroup (NYSE:C). General Motors Acceptance Corp (NYSE:GKM) manifested a bearish engulfing candlestick yesterday and fell today.

It is the debt of all types - the combined debt (NYSEARCA:AGG), mortgage backed securities, AIG (NYSE:AIG), consumer credit (NASDAQ:WRLD), automobile loan credit (NASDAQ:NICK) and commericial lending credit (NYSE:COF) and (NYSE:AXP) - that is the 'nail in the coffin' for stock and bond wealth.

Stocks, especially the manic Russell 2000 shares, are rising but are going to face strong resistance caused by last week's lollipop hanging man reversal.

  • The daily chart of the Dow (DIA) shows this week's rise, towards last week's parabolic turn lower.
  • The daily chart of the S&P (NYSEARCA:SPY), helped by rising Exxon Mobil (NYSE:XOM), and other energy share prices, has reached its objective.
  • The manic -- the excitable, that is, the high alpha, Russell 2000 (NYSEARCA:IWM) has easily gone beyond last week's high. The Russel is "goosed," and has been "goosed" by the financial sector. The IWM-to-IFY Yahoo Finance chart shows just how intensely these small US company shares are driven by the availability or shortage of credit and liquidity.
  • The doji and the bearish harami in First Solar (NASDAQ:FSLR) suggests the rally is done.
  • Finally, confirmation of the end of rally, comes from a downturn in the junk bonds, that is the high yield corporate bonds (NYSEARCA:HYG).

Given the stagflation documented above, and that this week marks the "end of an options period for May," the banks (NYSEARCA:KBE) and investment bankers - being zombie corporations, soulless, capital-eating monsters - are going to now drag, once again, the stock market lower.

Treasuries are not going to be a lifeboat of safety from falling stocks, as the 30 Year US Treasury bonds usually crash from now going into July.


Volatility [$VIX] has fallen to 16.30; it has made full Fib retracement to early October 2007 -- the time of the Citigroup CDObust. On March 17, 2008, Volatility got to 35.6.


Gold has formed a trading pennant at $880. While the US Dollar traded unchanged at 73.30, gold [$GOLD] traded up Friday to close at $880, where it has formed a pennant in its chart. Usually prices fall from such patterns. Gold could easily fall to its former trading level of $850, or its 200 day moving average of $830, before heading higher as investors rush to trade out of falling stock and bond wealth for a hard asset.