It Has To Happen … And Soon.

As of the close of Friday 24 August 2012, the sector leaders all session long were Telecom, Consumer Staples and Healthcare – all defensive sectors with significant gains to boot while the strength sectors weren’t even half as close. Volumes were another anomaly as they dipped 20% against its already woeful weekly average. This is highly irregular given that Friday’s volumes are usually the best of the week. These were the worst Friday volumes I’ve seen, save Christmas week. Although Friday ended on a high but the week was lower.

The VIX closed lower but stay above the 15 handle at 15.18 -0.78 (-4.89%). It now wears a Dark Cloud Cover implying more downside in the next session. It also cut and closed below its 20DSMA to confirm its downside bias.

Treasuries have settled back to where they started as the trading day comes to an end. After hitting a yield of 1.635%, the 10-year now sits right around where it began they day. The front end of the curve is showing a bit more weakness, but it is negligible.

The 10-year ran all the way from a 1.85% down to 1.63% before settling into the 1.67% area. The 30-year followed the same path going from 2.97% to 2.76% before settling back a bit to 2.79%. The 2-to-10-year spread droppedfrom 153 bps at the end of last week to 141 bps by mid day on Friday.

Treasury Yields AMC on Friday 24 August, 2012:

2/30 Spread : 251bps ( -2 ) … 2/10 Spread : 140bps ( -2 )

The shorter maturities rose to flatten the curve from the backside up as the longer maturities closed unchanged to provide the pivot point for the flattening. This is a market in serious doubt. The rise of the shorter maturities is always a sign of increasing hedges rather than a flight to safety especially when the risk market is bullish. The last time the curve flattened like that was in Q4 of 2006 and by January 2007, the curve had inverted.

Economic Commentary

Everything is still not right with this market. Leadership is still firmly with the defensive sectors, investors are increasing their hedges on shorter-term fixed income securities, volumes are desperately woeful and the VIX is showing a high level of complacency. Now this sort of behavior and go on for a long time and inflate the asset market further or it can turn on its head in a flash and crash the market in a hurry. Either way, this sort of rally is not sustainable and the shit will hit the fan sooner rather than later. It would be foolish to jump onto this rally now also given that the market will be testing its 52 week high for the second time in three weeks. which could well turn into a Double Top situation.

Fundamentalists would have you believe that the market is still undervalued but even undervalued markets can still go down. These are the same fundamentalists that said we wouldn’t sell off in May this year and the same fundamentalists who are rooting for QE3 when the market is not down and the economy is not in need more liquidity when all the liquidity is still tied up in bonds. The point of a QE is to put money in the streets but the banks are making sure it never gets to the streets anyway so what is the point of another QE under the same mechanics if not to make the financial institutions and these fundamentalists richer?

Now they wait for the outcome of Jackson Hole like it will make a difference on the street. Once again, any outcome from Jackson Hole is likely to favor the institutions and deny the street of its fair bite of the apple. And while we eyeball the goings-on on Wall Street, we turn our backs on the greater threat to the global economy – China. With the biggest seller in the world contracting the manufacturing output for more than half a year, China poses the most potent threat to sink the global economy along with the only remaining strong region in the world, Asia.

All this has to come to a head soon. All the liquidity that has been pumped into this debt problem in the last three years has done nothing to improve the situation. Instead, it has only served to make the world addicted to more liquidity and more leveraged debt. Yield caps and a return to the gold standard are not viable solutions – they are temporary fixes that will in time fall apart again as debt rages on in its deathly spiral.

The world needs to stop pumping in liquidity and issuing more debt. The world needs to swallow a bitter pill called Recession so that it can press the Reset button on the economies of the world and equalize the massive wealth that is stuck in the banks to put it out on the street that so badly needs that REAL liquidity instead of all this debt. We need a Depression to force the elites of the world out of hiding and spill their wealth onto the streets by creating jobs and starting up manufacturing businesses instead of farming them out to lower wage economies in the name of profit. Now that the emerging markets have emerged, let their elites create an economy to sustain their own country so that the wealth is evenly spread out all over the world.

This, of course, will never happen. For as long as profit remains the main objective, the debt will climb, the liquidity will continue to dry up, the elite 1% will get richer and the rest of the world will continue to be enslaved by them in debt.

And the market will continue its empty funk for another decade.


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