Financial Sense Blog

Three weeks ago the Wall Street Journal published my OpEd piece about concern that China may try to make the rebalancing process less painful by allowing the RMB to depreciate. In the piece I argue that this isn’t as obvious as you might think.

The market was overbought on September 14 th after two weeks of shock and awe from the ECB and the Fed. The logical conclusion after that move was a correction, especially with the void of major catalysts. The more important question isn’t why the market is correcting, but where will it find support?

The market rallied for its biggest gain since 9/13. Europe was the driver. The markets rallied on the belief that the powers that be will step in and buy bonds of troubled nations and prevent further pain on the continent.

The Congressional Budget Office (CBO) did a good job of shredding the electric car industry and the government’s role in its evolution with a recent report.

Central bankers around the world may be providing a backstop to the financial markets in much the same way Greenspan did during the “Goldilocks” years, but when the short-term euphoria wears off, will the negative repercussions be even more severe?

We are running short of cheap energy, especially cheap oil. High priced oil (or high priced energy of any type) tends to slow down the economy, leading to economic contraction. Our financial system is not made for contraction. Ben Bernanke and others have used artificially low interest rates and Quantitative Easing to try to cover up our current problems, but this is not a long-term solution. At some point, the underlying problems will become evident, and some type of discontinuity will take place. The economic situation will change from one of growth to decline.

The velocity of money buried in a hole is zero. The velocity of hoarded money is also zero. The velocity of credit that is never used (i.e. no money is actually borrowed and spent) is also zero. Money that is created but which has zero velocity cannot spark inflation.

The recent burst of market enthusiasm has meanwhile been accompanied by an inordinate number of technical divergences, including a strong warning sign in the form of a Dow Theory divergence between industrial and transportation stocks. All of these are to be filed under 'they won't matter until they do', but it would be a mistake to simply ignore them.

The idea that China was going to rule the world by the end of the decade was complete silliness. Exponential math, as well as energy constraints said it would not happen. Malinvestments and fraud were simply icing on the absurdly-bullish cake.

After the retreat today the market has surrendered virtually all of its post FOMC bounce. The S&P 500 closed at 1433 and was near the same level when the big announcement came on September 13 th . So, the market broke out and we are now retesting that breakout level.