It has been almost two weeks since my last post.  Life has been exceedingly busy, what with the day job and launching Harriet’s  ebook on the market. So now I can take a breath and think about the markets.

Since Friday the 17th the DJIA has risen 350 points, the S&P500 38 and the FTSE 157.  What is the reason for this exuberance? Make that unjustified exuberance.

Headlines on the last few days include:
Regulators shut 7 more banks, boosting total to 64
Caterpillar 2Q profit falls 66% on weak demand
US Home prices drop 5.6% in May from year ago on job losses
Jobless checks for millions delayed as states struggle
US consumer confidence drops in July – etc etc

But the market seems to have blinkers on and can only see that banks and a few other sections made better than expected profits for the quarter.  Then there is the “swine flu” panic.  The pharmaceutical companies are having a bonanza. (How did this virus get released?) Hmmm…

I’ll catch up again on Sunday.

The rally that failed to appear after the Independence Day holiday came this week. All markets made gains, The DJIA gained 612 ponts, The S&P500 62.6 and the FTSE 261 ponits.  It seemed to be another week when and good news was exaggerated and any bad news ignored.  Mind you the fact that the July options expired on Friday could have had a bit to do with it.

Much has been made of “more than expected” housing starts. It’s summer in the states, if you were building a house, summer is the time to do it. It is not a reason for jubilation, it is just common sense.

Another reason for the rally was the “stellar” performance of JP Morgan and Goldman Sachs.  There are two paragraphs from this weeks letter from John Mauldin that I would like to quote.

In the first few years of the G.W. Bush administration, the banking authorities decided it would be OK to allow five banks to increase their leverage from 12:1 up to 30:1. Which five banks, you ask? Bear Stearns, Lehman, Merrill Lynch, JPMorgan, and Goldman Sachs. How did that work out, just five years later? Three are gone and two survived with large dollops of taxpayer money.

(Sidebar: Is it really any surprise that Goldman and JPMorgan are making record profits on the underwriting and trading side of the business? Hell, if I could eliminate 50% of my competition, my profits would grow too! JPMorgan’s consumer credit, credit card, and other business groups are losing money big-time.)

John Mauldin’s letter this week is largely about banks and leverage and how the banks in Europe have an even bigger problem. His warning of removing sharp objects and pour another adult drink are not in jest.  We are not out of the woods yet.

Another two banks in the US hit the wall this week, both from Southern California, bringing the total for the year to 57.  CIT Group has been in the headlines this week, their plight has not rattled the markets though.  Evidently they are now in talks with (guess who) JP Morgan and Goldman Sachs about short term financing, but bankruptcy is still possible.

An article tells how thousands of people are running out of their unemployment benefits. By the end of September more than 500,000 will exhaust their benefits payments.  What do you do when you have no job and no benefit payment coming in?  It’s not a position I would want to be in. Some say things are improving,  the evidence is more like not getting worse as fast, but still getting worse.

It is often the case that after Presidents Day, Independence Day and Thanksgiving, the market resumes with a “patriotic” rally.  Not so this time. The DJIA lost 156, the S&P500 lost 19 points and the FTSE lost 95.5 points. All points mentioned were on the September futures. Last week I mentioned that the FTSE was forming a support level at 4180, but this failed to hold on Monday.

You can see from the chart that the market is now back below the 200 day moving average (green line).  There was much rejoicing amongst the bulls a few weeks ago when the market rose above the 200 day moving average.

The S&P500 has also returned below the 200 day MA (just, by only 3 points)

For the first time since January the initial unemployed number came in below 600,000, but to counter that good news on Thursday, on Friday the Michigan Sentiment came in at 64 when the market was expecting 70.  What this is saying is that the “man” on the street is not as confident as he was last month when the figure was 70.8.

Meanwhile another bank has hit the wall making the total 53 for the year – here in Australia is it hard to comprehend that number of banks failing. Australia only has 4 banks and they are some of the only AAA rated banks in the world – explained by our very high fees. 

GM has come out of bankruptcy in record time, but I see more problems ahead for the slimmed down company.  For how long and how much will the 60% shareholder (the US government) keep pumping money into it to keep it afloat? Consumers are still not buying cars.  The savings rate is increasing rapidly which is not good for any retailer selling anything other than the necessities of life.

In California things are going from bad to worse. Arnie failed to get budget cuts through months ago, and now they have run out of money and are issuing IOU’s instead of cash. But what can you do with an IOU if nobody wants to give you cash for it?  Arnie saw the problem growing and wanted to do something about it.  They even had a referendum about the need for cuts and Arnie was defeated.  Now they are paying the price.  California is the 8th biggest economy in the world and it is in real trouble.  It can’t print it’s own money, but it is trying the next best thing, printing IOU’s.

And to close, John Mauldin’s letter this week added more doubts about there being a sustained recovery any time soon. He was pointing out that with the record number of countries running deficits and record deficits at that there is just not enough money in the world to fund them all, or even a substantial number of them. So where will the money come from?  Lets see what the reporting season brings this week.

Today the US celebrates Independence Day.  However fewer and fewer citizens are truly independent.  Yesterday the markets took a turn down after the non farm payrolls came in worse than expected. Initial unemployed still remains above 600,000 and the unemoloyment rate hit 9.5%.  This is the official figure which does not count those unfortunate people that have run out of thie entitlement. (Now 39 weeks, up from the normal 26 week entitlement)  I have read that the figure counting all those unemployed or under employed is closer to 20%.

Early in the week there was optimism that the worst was behind us. Bernie Madoff was sentenced to 150 years in goal.  What are they going to do? Keep his coffin in there until 2159?? Even George Soros said that the crisis was behind us and growth will begin next year.  Then yesterday we read that another seven banks have hit the wall bringing the total to 52 for the year.  Two and a half years ago I was giving a running total of mortgage firms that were hitting the wall each month.  I did not dream that banks would fail at a similar rate.

Can you remember when it was said that the US was “a goldilocks economy” (not too hot, not too cold). that “it dosen’t matter if internet companies have no earnings”, or “high P/E ratios don’t matter”.  What about “subprime loans aren’t important” or that “foreign economies have decoupled from the US”.  All the above have been offered as reasons why “this time it is different”.  So it is too early to see “green shoots”.  That falls into the same catogory as “house prices never go down”.  If you believe that you will believe anything.

Now that the quarter is over, in a few weeks we will start to have the earnings reports and predictions for this quarter.  Most will have their rose tinted glasses on.

There will not be a sustained improvement until employment starts picking up and confidence returns to the person in the street; where they are confident they will still have a job next week, next month, next year.

Finally for my rays of sunshine this week I read that India joins Russia and China in questioning US dollar dominance. If these three huge traders decide to circumvent using US dollars for trade amongst themselves, as China has already agreed to with Brazil, then the US dollar is going to be less desirable a currency to hold.

Well I suppose the answer to that is that we all do, cars for example.  But treasury notes!  A Bloomberg article  on Thursday says it all. Saying how there was a strong demand for the sale last week. The 7 year notes yeilded 3.53%.

But then the last paragraph of the article says “Treasuries are poised for their worst quarter since the first 3 months of 1980.  The securities have lost 3.8% since March 31.  If they lost 3.8% in a quarter and they are selling new ones with a yield of 3.53% a year then presumably these could lose everything in the next year. I really don’t understand their logic if this is the case. Maybe I’m missing something here. The current yield doesn’t seem to reflect the risk they are taking.

John Mauldin’s e-letter this week points out that we are not out of the woods yet.  If you don’t already get his free letter each week you can subscribe here. Perhaps I like him so much because I agree with him. Over time he has been the most accurate of all the analysts I have read. I didn’t used to agree with him, but over time he has been right and I have been wrong, so I have learned a lot from him.

So what happened this week?  So far attempts at window dressing have not happened.  The DJIA lost 103 points for the week, the S&P500 had a minimal loss of 1.8 points and the FTSE lost 110 points.  Of interest regarding the FTSE, every day last week the intraday low was within plus or minus 3 points of 4180.  We can say that 4180 is a support level worth watching.

China is again calling on the world to cut its reliance on the US dollar as the “reserve” currency.  They are promoting an IMF reserve currency made up of a basket of currencies.  If this does ever happen it will spell the end of the US as we know it today.  There will be no demand for US$ to buy commodities etc.  The world will be awash with US dollars rapidly depreciating.

In the US again another five banks have been seized by the government as they have become insolvent raising the total of bank failures this year to 45.

Now that the June expiry is out of the way we can speculate on what next.

 As I mentioned last weekend 4500 has developed into a very strong resistance level.  This can be seen clearly on the chart.  In this last week the September futures (now the current series) dropped 85.5 points on the FTSE, 25 points on the S&P500 and 262 points on the DJIA.

With the end of quarter only a week and half away it will be interesting to see if there is a rally, and if so how high can they push it? 

Meanwhile Thursday’s initial unemployed remained above 600,000 though supposedly continuing claims have dropped. (Or have people just run out of their continuing claim entitlement?)  One headline claimed that housing prices had bottomed and that there was a slight rinse in the value of houses.  Another article explained that the rise in value was due to an easing in the credit that allowed more expensive houses to be bought - amazing what one can do with a bit of smoke and mirrors.

This week the government will try to sell $40 billion of 2 year Treasuries on Tuesday, $37 billion of 5 year notes on Wednesday and $27 billion of 7 year notes on Thursday.  Who will be daft enough to buy?  If  Japan and China are reducing their purchases then who is left?  The FED says they will not monetize debt, but what if the banks they now “control” buy the debt?  Same thing, different method.  Lets see what happens.

Indicators of what is really happening will be seen in the US$ exchange rate, price of Gold and oil. The old saying goes “You can fool some of the people some of the time, but you can’t fool all of the people all of the time.”

In my last post during the weekend I mentioned that the next leg down could not be too far away.  Monday started off with a significant drop an all markets.  The question then was, would there be any follow through as past attempts to correct have been short lived?  The US market has now dropped three days in a row – 300 down on the DOW – but yesterday was almost a pause day with a drop of only 21 points on the futures. Has anything changed to make this the start of the next down leg? 

I would suggest a bit of caution.  The bulls will be reluctant to throw in the towel.  We are approaching the end of the quarter, so the fund managers would dearly like to keep this market at this level or higher until the end of the month so that their end of quarter figures look good for the market.  In addition June futures and options expire on Friday. This event can  lead to an increase in volatility as market makers try to move the market to their advantage for the expiry.

The US dollar has weakened against most currencies. It took $1.43 to buy a euro on the third of June, then the dollar strengthened a bit after being talked up by all in sundry, including Russia.  Still the average now is close to $1.40.  I still think there will be fall out from the Chrysler and GM bankruptcies where unsecured creditors have been put ahead of secured creditors. 

Banks worldwide have been increasing the mortgage rate citing the high cost of money!  US banks that took TARP money in the crisis are keen to pay it back to get the government “off their backs”.  “How dare the government limit how much we can take out of the system”.  So in their efforts to raise billions to pay back the government money is suddenly more expensive.  That’s my theory anyway.  Even in Australia banks are increasing the mortgage interest rate saying the money is more expensive.  We pay more in Australia because banks in America want to pay back their TARP.

As to where the markets go from here we will have to wait untill next week to see if there is an effort by the fund managers to “window dress” the end of quarter result.  But once the Quarter is finished, then as one commentor said, all bets are off.

It has been a week of ups and downs with the net result of half a point gain for the FTSE.   The UK papers are starting to talk about the end of the recession.   Starting from the seventh of may there have been five occasions where 4500 has been broken (or within 5 points), but each time the market has retreated.  This has now become a very strong resistance level.  If the market cannot go higher than 4500 then the other option is for it to go lower. One headline today comments that one house in ten in the UK has more owing on it than its current valuation. (One in eight in the US).

For all the hype in the market, the underlying data is not so hot.   Yes the initial unemployed did come in less than expected, but it was still over 600,000.  Household wealth fell by 1.3 trillion in the 1st quarter according to the FED.  That is a lot of wealth that is not available to spend.  Another headline on Bloomberg today was that forclosure filings top 300,000 for the third straight month in May and may hit a record 1.8 million for the first half of the year. Yikes, this does not bode well for house prices recovering in the near future.

We have yet to have the fall out from the GM bankruptcy hit the unemployed numbers.  It looks like Chrysler can go ahead with its sale to the Fiat, US & Canadian governments, and of course the AWU.  How they can get away with putting an unsecured creditor ahead of secured creditors is unbelievable.  Would make anybody think twice about taking a “secured” position with any company now.  We will have to see if it affects future “secured” transactions.

As we come to the expiry of the June futures and options this Friday it is interesting to note that the September futures are trading at a 40 point discount to the cash.  So the futures market has yet to factor in a recovery.  There are more comments about this being a W shaped recovery, so far we have only seen the V shape.  The second down leg can not be too far off now.

This week and the next are some what busy.  Normally I have the weekend, or at least one day over the weekend to catch up on my reading and write a blog.  This weekend I have been working both Saturday and Sunday at the “day job”.

However others have picked up on Bernake’s comments about not monetizing debt.  The general tone is that politicians will not have the backbone to make the tough decisions which will in the end leave only monetizing debt as the way out of the mire.

Already the US government is in the position that every two months, the fed needs to borrow nearly the equivalent of the previous entire year’s record-breaking deficit. This is clearly unstainable.  Already the Chinese are looking for alternatives to holding US dollars.

Treasury Secretary Geitner is on a mission to China to shore up the US dollar and to try and convince the Chinese that their US dollar holdings are safe.  As part of this trip he gave a talk to students at the University of Beijing, saying how the US was going to reduce the deficit of 12% of GDP to 3% GDP. The students did not believe him, they laughed at him.

For all of that the market still made modest gains for the week.  There was rejoicing that initial unemployed and non farm payrolls came in less than expected, though initial unemployed has still to drop below 600,000 for a week.  Non farm payrolls will be revised over the next few months.  They add in “births and deaths” of new businesses.  Being spring they estimate there are 1000′s of new business starting up, all employing people that have not shown up in the figures yet. 

Another article that caught my eye was that “Medical bills play a role in 62% of bankruptcies”.  Wow!! A very good reason to keep away from doctors and look after yourself.

Now it is my bedtime as I have a 5:30am start which means I have to get out of bed by 4:15am.

I just have time for a short blog before the second part of my shift.  Yesterday the FTSE fell by some 90 odd points.  About time too I say.  Interestingly for the first time in a long time the futures are at a small (2 points) premium over the cash – its been negative for a long time.

What caught my eye this morning though was two small snippets in larger articles on Bloomberg.  In the first, Bill Gross, the founder of Pacific Investment Management Co, advised the holders of US dollars to diversify before central banks and sovereign wealth funds ultimately do the same amid concern about surging deficits.

The second article was about Ben Bernanke.  He said large US budget deficits threaten financial stability and the government can not continue to borrow at the current rate to finance the shortfall.  He went on to say “Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth.”

Further on in the article he said “Either cuts in spending or increases in taxes will be necessary to stabilize the fiscal situation.  The Fedral Reserve will not monetize debt.”  Hmm…

Now what politician is going to vote for increased taxes or reduced spending.  Reduced spending is OK as long as its not in my state they will say.