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THE INVESTMENT STRATEGY BLOG IS GOING ON VACATION FOR THE FIRST WEEK IN 2015. I WILL BE BACK SOON, WITH MORE BAD NEWS!

HAPPY NEW YEAR FROM THE LONE BEAR (WHO ME WORRY?)

After reading all the year in periodical I realize that I am one of the few people who are not bullish on the US stock market. In September 1981 I called myself a LONE BULL and predicted that markets would go 1000 to above 10,000. Now, I may have to call myself the LONE BEAR and I see the markets vulnerable back down to the 10,750… It certainly isn’t as much fun being bearish, as it was being bullish. Let’s face it, a Bear Market will only help those market traders who can go short. Everyone else including, the economy, will suffer. Sorry, I just can’t go along with all the hype and year-end cheer. I continue to be worried about 1) the US economy when all of the growth is going to the top 1%. 2) the vulnerability of the high-yield bond market (see below) and 3) the balance sheets of the banks, if there is a bond crisis. I hope I’m wrong, but I just have to speak out when I see troubles ahead. So, in my opinion get ready for a volatile 2015. Happy new year!

GREETINGS’ FROM RUSSIA WITHOUT LOVE’Mr. Putin of Russia got right in the holiday spirit today by issuing new threats to the West. He said, “Russia could use nuclear weapons in retaliation against the use of nuclear or other weapons of mass destruction against it or its allies” and also “in case of aggression involving conventional weapons, that ‘threatens the very existence’ of the Russian state.” I wonder if that includes the reduction of oil prices, that have the effect of devastating the Russian economy. Since oil prices have fallen, the Russian stock market has fallen 50%. Also, the Russian ruble has fallen 50% and the Russian Trust Bank needs a bailout  As much as we’d like to see Mr. Putin struggle, annoying the Bear may not be beneficial to the West, as it might appear at first glance. The other statement of Mr. Putin was that he said “Russia could use precision weapons as part of a strategic deterrent measure”, without spelling out when and how Moscow would resort to them. That is what US is doing in bombing Syria and Iraq. He also said “the expansion of NATO military infrastructure to the borders of Russia, ‘presented a military threat’ to Russia.” Russia’s relationship with the West have plummeted to the lowest level since the Cold War and NATO cut off its ties with Russia, after it and annexed Ukraine’s Crimea peninsula in March.

The thing that worries me about all this, is the effect on Russian bonds, that have been plummeting in price. Russia’s central bank said on Friday that its bailout of the Trust Bank was the first major lender to fail as a result of the sharp decline of the ruble and oil prices and that this would cost the Russian government approximately $2.5 billion This is far more than previously anticipated.  Other Russian banks are also expected to need bailouts as a result of the recent currency crisis. Other oil-producing nations like Venezuela, Brazil, Iran and Mexico may find that their banks may also need a bailout. Lower oil prices are also having their affect here at home, where Texas, Louisiana, Alaska and North Dakota will have State budget problems and economic slowdowns.This could cause mutual funds selling in their high-yield bond funds, which could start an avalanche of panic selling in Greek,Spanish, etc, bonds. As these markets are not liquid either, the selling might transfer to better grade bonds, that are more liquid! Remember that the Fed holds $3 trillion dollars of bonds that it purchase during its QE buying spree and our banks are loaded with bonds and derivatives. See the BOND AND CURRENCY CRISIS below.

SANTA RALLY SENDS MARKET UP 1100 POINTS IN 8 DAYS TO record high!Tis the season’ for a year end rally. A time for good cheer and merriment!   Watch out, the spiked Egg-nog can make you delusional. I suggest you stay sober, so you won’t have a hangover after the traditional Santa Clause rally is over. In the last eight days stocks shot up 1100 POINTS on news from the Fed that they would be ‘patient’ in raising interest rates. Analysts  took this to mean, that rates would not go up for a ‘considerable time’, some say 6 months or more. This eased investor anxieties that the Fed would raise rates in January( for the first time since the 2008 financial crisis). The Fed is committed to an inflationary stimulation policy, which is crucially tied to not allowing a deflationary scenario to gain momentum, as they have no way to offset a deflationary effect on the economy. As we pointed out in our page above ‘SURPRISE! DEFLATION’. THEY APPEAR TO BE FIGHTING A LOOSING BATTLE. Today Oil is $54.72 -1.11 and gold up $20.90 an ounce! However, there are other things besides deflation, that investors should be concerned about.

THE  BOND AND CURRENCY CRISIS Washington and the Fed have tried to strengthen the financial and banking system ever since it almost broke down five years ago. With the current turmoil in the emerging nations bonds and currency markets, the vulnerability of these efforts are currently being tested. With oil prices declining and with oil priced in dollars, there is a full-blown currency crisis in such countries as Russia, Brazil, Mexico and Venezuela.1) Will Big banks and National Banks,be sturdy enough to bear the shocks? (Russia’s Trust Bank is the first to fail) and 2) How dangerous are derivatives that banks now hold in record levels? Also, the Fed has bought some $3 trillion of miscellaneous bonds during its. QE buying spree. 3)If bonds start to default, will the banks price their portfolio “to the market?”

With lower oil prices, a disruption in oil producing countries economies could cause global instability and undermine the efforts of Europe and Japan to stimulate their economies. Petrobras in Brazil, Pemex in Mexico and Gazptom in Russia, sold billions of dollars of bonds to investors looking to receive high interest rates. Trouble with these State run companies, could cause worldwide investment growth to slow, leading to other corporate bond defaults. The bonds of non oil producing countries like Turkey, India and South Africa, have already suffered, as anxieties have caused selling in other emerging markets.
The problem is further multiplied by the holding of emerging market mutual bond funds and exchange traded funds, that cannot liquefy their bond portfolios as quickly as the shareholders can sell. The investors who hold these high-yielding funds have immediate liquidity. However, the managers that hold these funds in high-yielding bonds, have far less liquidity. PIMCO owns close to 50% of many foreign bonds and controls over 40% of the debt issued by the bank of China, 40% of the state bank of India and close to 30% of some Spanish banks. In some exchange traded funds like widely held BlackRock, they have 9% of its funds in government owned oil companies. These bonds cannot be sold quickly. Already this month Petrobras, 10 year bond has gone from 6% to 8% and Pemex bonds  have gone from 3.8% to 4.8%. The sell off in these bonds could quickly turn into a panic and a domino effect could occur, as managers sell more liquid bonds to meet redemption demands. This could spread to other markets including the stock market or visa versa..Anxieties are rising as Jefferies Company has reported a 73% decline in fourth-quarter revenue from its bond trading unit.

BlackRock, PIMCO and Franklin Temelton funds, among others, hold large amounts of high-yielding bonds. Since 2009, $1.7 trillion of emerging market bonds have been sold. Petrobras has $170 billion in debt, making it the most indebted company in the world. Russian companies sold some $244 billion of bonds since 2009. PIMCO’s Emerging Market Corporate Bond Fund assets soared to $1.5 billion in 2013, but now reportedly stands at only $496 million. The Russian stock market is down 50% this year and the rubble has crumbled. To some extent the panic has already started. However, its international economic implications have yet to be recognized. ‘Junk Bonds’ can very quickly become the new name for for these high-yielding bonds. Remember, markets hate the lack of liquidity!

The thing that worries me about all this, is the effect on Russian bonds, that have been plummeting in price. Russia’s central bank said on Friday that its bailout of the Trust Bank was the first major lender to fail as a result of the sharp decline of the ruble and oil prices and that this would cost the Russian government approximately $2.5 billion This is far more than previously anticipated.  Other Russian banks are also expected to need bailouts as a result of the recent currency crisis. Other oil-producing nations like Venezuela, Brazil, Iran and Mexico may find that their banks may also need a bailout. Lower oil prices are also having their affect here at home, where Texas, Louisiana, Alaska and North Dakota will have State budget problems and economic slowdowns.This could cause mutual fund selling in their high-yield bond funds, which could start an avalanche of panic selling in Greek,Spanish, etc, bonds. As these markets are not liquid either, the selling might transfer to better grade bonds, that are more liquid! Remember that the Fed holds $3 trillion dollars of bonds that it purchase during its QE buying spree and our banks are loaded with bonds and derivatives. If the stock markets worldwide starts to decline and short-term money suddenly dries up, there could be unforeseen difficulties dealing with a bond/currency crisis that has the potential to cause panic selling and a worldwide economic crisis. Who me Worry?

Source: Barrons Magazine and The New York Times

 Current 20014 Dow NASDAQ S&P 500
17,823 4,736 2,058
Short Term UP UP UP
Int. Term ? ? ?
Long Term UP UP UP
ForecastedTrend  DJIA NASDAQ S&P 500
Short Term Down Down Down
Int. Term ? ? ?
Long Term Sideways? Sideways? Sideways?
Breakout Points DJIA NASDAQ S&P 500
Short Term Up (Resistance) 18,086 4,814 2,092
Short Term Down (Support) 17,068/15,855             4547/4,1166 1,972/1,8200
Int. Term Up (Resistance) 18,062 See Fibonacci Projections above 5,002 See Fibonacci Projections above 2,486 See Fibonacci Projections above
Int. Term Down (Support) 15,356/14,688 3,986/3294 1,560
Long Term Up (Resistance) 18,974 5,132 3,044
Long Term Down Fibonacci Support 50%12,005

62% 10,750

      50%2,958  62% 2,555 50%1,390 62% 1,177
       

Carl M. Birkelbach 1 /1/15

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