Oversold

A piece of news I expected is now out – an Obama plan to spend more money on stimulus.  I have stated this would happen in the past weeks.  Will it get passed or not is the question?  There will be a battle and the proposals may get changed around however there is one thing for certain the Government will spend.  I discussed this with a colleague a few weeks back and we agreed there was no way any government in an election mode would withdraw stimulus.

The USA will not be the last as governments struggle to increase employment, growth and popularity during the course of this year.

This fact alone will give some hope to markets and fund activity will also spur a new wave of buying.  This article was largely written yesterday and posted for my Gold Members early this morning so the charts later in this article on the Australian gold shares are timed well.  As I finish off this article now the XGD is up 3.75% today in Australia well above the 1.85% rise in the XAO.

Markets have been driven lower lately largely on Fed mopping up of liquidity, tight credit plus short term news items over the past few weeks.  China is a run-away train once again and they had to step on the brakes.  Increased reserve requirements and a cooing is good for long term growth and sustainability however it was seen as bearish at this time.  I am pleased to see the restraint and always interested to see the reaction in the media and the markets.

The Fed had to mop up after backing inter-bank lending in the heat of the 2008 crisis however it my hope and belief that they will do this in stages.  They have no choice but to mop up and probably no choice but to stage this process. 

The banks in the US have to split, demerge into smaller separate corporate entities to limit the repercussions of future failures.  What does that say?  Once again some short term uncertainty and confusion plus the timing problem and it becomes a negative.  Longer term this story will morph into a done deal and the cards will fall where they can be properly assessed.  This is a step that is needed in the banking system and will eventually become seen as a positive.

So they demerge and the money still gets invested by the new entities and the show goes on in the finance area at least.  Money will be generated in the process for those involved.  Mr. Bernanke was re-elected as expected removing this perceived negative in the markets but last week it was a negative. 

The Dow hit heavy resistance at tops back in March 2002, February 2004, January to March 2005 and a low in July 2008.  So it topped for now at 10,700 and then fell over 6%, these are scary numbers – the 10,000 level looms below.  Between here and 9650 there are numerous long and short term support levels and these should hold if my current theory is correct.

The Australian stock market (XAO) had fallen by over 7.8% to 4600 reaching some strong support in the 4400 to 4600 range as of yesterday.

The real reasons for the next major fall in the markets are still some way off and this is all related to the debt cycle but these will emerge more strongly this year as sovereign credit down-grades force rates higher.  The Greek Government is now borrowing at 14% at present and this is the future for Japan, the USA and some other nations.  It may be some time off and many will be wondering what I am smoking to suggest such a thing however I am quietly confident about this theory. 

The problem is that if or when rates go up anywhere near this amount asset prices will have to fall.  Loans will default and properties will change hands.  New losses will have to be written off in the banking sector and business will have to down size its debt or face the consequences.  Equity analysts will increasingly have to factor debt with a greater weighting as we move forward.

Current Direction

There is still ample liquidity on the sidelines and in the system despite the tight credit conditions.  The liquidity has been created in the last two years and much of it is currently being hoarded by the banks. 

I was told last night that the US Banks are carving up the spoils of the banks that are declared insolvent each Friday so the solvent ones are sitting on capital to qualify for the feast - and therefore they are not lending.

Funds that closed their books early for the year in November and December last year would have been the buyers over the past few weeks.  Somebody had to buy all that paper (shares) didn’t they?  These funds turned bearish after selling down to maximise their cash ratios late last year and will soon come out with some positive comments on a fresh round of statistics. 

This is a curious thing to watch.  Not only do we see a change in sentiment amongst investors including funds, from greed to fear we also see a corresponding swing in sentiment in the media from bearish to bullish.  Bullish in this investment climate can mean news that is not as bad as what was expected and this can lead to a reduction in stress and fear resulting in buying activity.