I'm Back: Fed Cornered

Hello All!

I know its been awhile(2 years?).  My life got busy and my priorities had to change for a tad.  That's how life works at times isn't it?

I wanted to share a few thoughts on our markets as we head into chaotic times.  My fears are pretty much summed up in this chart:

We've had an epic stock run that was abruptly slammed shut in August with a sharp 12% pull back in a matter of days.

Why?

The money printing by the Fed via QE has led to historic asset prices via zero rates.  This has pushed the stock market to historically high levels. At the same time however its creating massive distortions in the markets.  Oil and other commodities have crashed as a result of this easy money. The reason for this is these conditions have enabled industries such as the oil companies to leverage up at insanely low borrowing costs and build thousands of wells and pump massive amounts of oil.  This is all well in good as long as prices stay high.

However,  China is borderline crashing which has cut down on their demand for oil and other commodities.  Europe's slow economy has further exacerbated these problems.

This economic shock then pushes all emerging market oil dependent countries to the brink of collapse.  There are rumors that Brazilian giant  Petrobas might default as a result of these issues.  This oil shock will eventually wreak havoc on the high yield debt markets(mark my word).  Just look at HYG's price action for a peak into the future.

Housing is booming since again thanks to zero rates and an improving jobs market combined with overseas billionaires looking to buy real estate as a hedge to their own crashing economies.  I suspect in the big cities this will continue but we are nearing a top IMO. 

I'm seeing similar behavior to 2008 in housing  When bidding wars reappear it's NOT the time to buy.  You want to buy when assets are hated not loved.  I realize inventories are low but if the economy softens into recession or rates rise you will regret buying now.

Overall, my concerns are reflected in the chart above.  Debt loads of Americans are soaring, wages are shrinking, and home ownership is becoming a pipe dream for the younger generations.  Baby boomers are also downsizing as they retire.  All of this will pressure housing in the future.

The Bottom Line

America is heading in the wrong direction.  The Fed's refusal to raise rates is proof of this.  They had a legit chance to raise last week with decent economic numbers and they punted.  My question is why?  What are they seeing that the rest of us are not?

This was a huge mistake IMO because it creates uncertainty.  Making matters worse is the fact that the economy moving forward is most likely weakening which means they wont have another chance to raise rates. 

Please play defense on your retirement accounts.  I see lots of volatility and lower prices in the near future. 

Signs of a top

Just a quick word of warning friends.  Leverage is great when stocks are soaring higher but it's a bitch when things turn around.  Dougie Short posted a great chart of how much leverage there is in the system right now:

The Bottom Line:

We are nearing a tipping point.  The Fed's "tapering" is a serious threat to the stock market and more importantly the bond market.  

I have dramatically reduced my positions in bonds. Interest rates are rising and I don't see how this can be prevented. I still hold some bonds to be diversified but if you learn one thing from this post it's to understand that bonds are not "safe".  In fact, they are much more risky than the stock market right now and you risk getting killed if rates move higher.

The reason I see rates moving higher is two fold:  Either the economy improves and the Fed tapers in order to control inflation or we pull a "Greece" where the economy implodes and the risk of servicing our debt scares away buyers of our bonds.

We may see a temporary rally in bonds if the market pulls back but longer term I expect the 10 year bond to hit 5%.  If and when this happens it will be painful for fixed income investments including junk bonds, REIT's, treasuries and any other interest rate sensitive stocks.

My long positions remain focused on energy and tech.  MSFT, OKE, CSCO, ETE, CHK, and a few others.  I also hold some gold and silver as a hedge.

Be careful out there folks!

It's time to be afraid.....

Hello friends!

I post only one chart today because the 10 year bond is all that matters.  I haven't posted much because things have become rather calm, but I am afraid things regarding the stock and bond markets are about to heat up again.

So everyone is talking about the Fed's tapering so let me give you my take...

The Fed has basically backed themselves into a corner via QE.  The Bernanke is basically screwed either way,  Zero Hedge had a great piece explaining why he is being tortured:

 OK, I'll add a second chart:

Here is the Fed's dilemma.  If they continue to buy bonds at the rate they have been buying they risk owning nearly all of the bond market within 6 years.  The reason for this is because the deficit has been shrinking and fewer MBS have been created following the housing crash in 2007/2008.  This means there are fewer and fewer bonds that the Fed can buy. 

As a result, the Fed has no choice but to taper.  I say this because if they don't taper they risk owning the whole bond market(or close to it).

If this happens then the risk for volatility dramatically increases because there will be fewer and fewer bonds that are traded as the Fed continues to buy.  For example:  If they owned 90% of the market then the 10% that was left  would be spooked and would likely flee or perhaps during tough times in the stock market they would come back.  Either way it creates a situation where volatility would surge and the markets would eventually panic because the float would be so small. 

The Bottom Line:

I think the Fed is hell bent on tapering even though they don't want to because they know Wall St. will hate them for it.  The problem they have is if they continue on their QE path they eventually risk owning all of the bond market.

By doing so they would essentially be monetizing our debt which Bernanke has promised he would never do.  We all know Ben is leaving next year so I believe he is concerned about his legacy. He doesn't want to be the guy that printed money until he crashed the dollar.

In the long run I believe the person that replaces him will do exactly that.  In the meantime, I think it's smart to play the taper trade.  Get out of the bond market, short treasuries, and go long the dollar.  I have personally bailed on most of my bond positions and have gone to cash and the USD.  I remain invested in blue chip stocks and gold because I see nowhere else to hide. Be careful out there folks.  The Fed's antics have created an environment where owning bonds are more risky than owning stocks IMO.

If rates continue to rise as I expect it's going to get really ugly in both the stock and bond markets. 

Stay tuned...