Navarro's Big Economic Picture
For Whom the Bell Tolls

Besides “buy low, sell high,” one of Warren Buffett’s most endearing phrases is that “they don’t ring a bell at the top.”  That’s certainly true at one level, but last week certainly left a lot of investors with their heads at least ringing. The roundhouse blow came from, who else, the Federal Reserve. Sure, the Fed did exactly what was expected.  They raised the ante another 25 bips and signaled a possible pause. What was lacking was any conviction in the pausing sentiment. And the accompanying data certainly didn’t provide the Fed with any strong arguments for the prudent pausing course. So by Thursday and Friday, it all came crashing down.

Loyal readers will know that this is the downturn that I have been expecting for months now. Indeed, I rang the topping bell back in February based on the gathering inflationary, rate hike, oil price shock storms. So this coming week will be important because it will take the measure of this market. Does it rally after a short downward feint?  Or is this the start of a larger correction and/or downward trend.  ou know where my sentiments lie. As for my cash, most of it is on the sidelines as I closed every single stock I had last week and reopened my short on QQQQ.

This Week's Market Movers - Inflation Week

Hands down, the likely biggest market movers will be the producer price index on Tuesday and the consumer price index on Wednesday.  The risk here will clearly be to the downside as thus far inflation has been pretty benign. What the markets will abhor is any sign that inflation is showing up, particularly in the PPI, which has remained fairly immune to its pressures.

One other report to watch will be new home sales on Tuesday.  Again, the risk favors the downside.

Davio's Hedging Your Bets
Reflation Nations

I have frequently talked about “reflation” and some readers have asked me to expand. Reflation is the act of stimulating the economy by increasing the money supply or by reducing taxes. It’s the opposite of deflation.

Reflationary policy tools include reducing taxes, changing the money supply, or even adjusting interest rates. So let’s break it down.

The US government has initiated both fiscal and monetary stimulus packages since late 2001. We first cut interest rates down to an ultra-low 1% and at the same time printed money like it was going out of style (see my posts on M3 data). All the while, the government built the nation’s biggest budget deficit ever.

Congress also helped reflate by reducing taxes on capital and dividend gains.  Now the world has caught on and all countries and currencies are in the reflation race, that is, everyone is printing more money and deflating their currencies.  Which, in turn, makes exports more attractive to the rest of the world – i.e. “Your dollar is stronger than our dollar, so import our stuff!”.  This is the basic reason why Gold is ratcheting up along with the stock market’s of the world – it’s like a stock split…would you rather have the Dow at 10K with a standard dollar or at 12K with a 20% discounted dollar?

To put this in perspective, the last time the Dow was at 11,600, the dollar was trading at 1.20. Today, it is trading at .84. Meaning that it is taking 30% more dollars to be at the same place.

So, whether we are talking about the US, Europe, Africa, Asia, or the rest of North America, I think even a non-chartist can easily see the reflation trend. There is so much money sloshing around the world that all indices and all exchanges are running in concert – up, up, up! 

That’s why we’ve seen such a run-up in some many ETFs for countries and regions around the world this year.  Don’t believe me?  Then check out the six month charts for EWG, Germany; EWI, Italy; EWU, the U.K.; EWJ, Japan; EWY, Korea; EWZ, Brazil, and EZA, South Africa. So goes the US, so goes the world.

Now here’s the problem: Reflation can lead to bad things over time. One of them is “stagflation.” Stagflation is a condition of slow economic growth and relatively high unemployment. It is due to higher costs and lower demand accompanied by a rise in prices, i.e., inflation.

Stagflation occurs when the economy isn't growing but prices are, which is not a good situation for a country to be in. This happened to a great extent during the 1970s, when world oil prices rose dramatically, fueling sharp inflation in developed countries.

My bottom line here is that reflation has been fun while it has lasted, but it has put in place some very dangerous dynamics in which inflation may well outrun economic growth and productivity gains. Last week’s market action may well be an acknowledgement of some of the problems that lay ahead.

Vaino's Biotech Corner
ISIS - Goddess of Magic and Life?

Isis Pharmaceuticals (ISIS) has been around since 1989. The scientific premise behind Isis is so-called “anti-sense therapy”. Pretty much all diseases have at their root the expression of one or more proteins that cause problems. Anti-sense therapy involves creating short segments of nucleic acids that interact with RNA.  RNA is the intermediary in molecular biology’s “central paradigm” that transmits genetic information from DNA to the ribosomes that make proteins. Anti-sense drugs bind to specific RNA segments and stop them from making protein. Here’s the punch line: In theory, if you know the gene that makes a protein you don’t want, you can design an anti-sense agent to stop it.

Isis has a single product on the market, Vitravene. It treats ocular CMV infection, a common occurrence in AIDS patients. Vitravene services a market that has pretty much disappeared thanks to successes in dealing with AIDS. Maybe just as well. To overcome problems with degradation of the drug, its mode of administration was direct injection into the eye, a literal sharp stick in the eye.

Now what about Isis’s pipeline? Isis has three drugs of its own in Phase 2 clinical trials and 5 other compounds in collaborative phase 1 and 2 clinical trials. With Vitravene, Isis has proven that it can get a drug on the market.  However, without any phase 3 studies, they are at best several years from selling any drugs. Still, it’s a good pipeline.

Now what about Isis’s competitors? Since 1989, other companies have come along and started making anti-sense drugs (the more modern term for anti-sense is “RNA interference”). Sirna Therapeutics (RNAI) and Alnylam Pharmaceuticals (ALNY) are the most prominent examples. Both have Phase 1 studies underway.

As for industry trends, toward the late 1990s, many companies that had been technology platform companies switched to drug discovery. However, Isis has done just the opposite. While it’s still a drug discovery company, Isis has expanded to apply its expertise to create a platform technology that can be applied to the detection of microorganisms. They call it TIGER, short for Triangulation Identification for Genetic Evaluation of Risks. The machine is particularly well suited to detecting agents used in biological warfare. With current concern over weapons of mass destruction, this is a good market to be in.

TIGER is a pretty expensive system, so its market will be limited to governments and big pharmaceutical companies. However, in the US, I don’t imagine budgets for either Defense or Homeland security are going to decrease anytime soon.

Isis should be ready to launch Tiger before any of their new drugs now in trials. The research that went into TIGER’s development was heavily funded by the Department of Defense, so there should be some interest.

Isis’ stock has been showing some signs of life lately, doubling over the last six months to the $8 range, before falling off last week. Their balance sheet isn’t rock solid, but they’ll be around for at least a few more years.

So here’s the bottom line: In essence, anti-sense is still untested technology. All three of the major anti-sense companies have significant collaborations with big pharmaceutical companies. ISIS has partnerships with Novartis and Lilly.  ALNY collaborates with Novartis and Merck, and RNAI with GSK and Allergan. ALNY has a market cap of $465M, RNAI’s market cap is $463M, and ISIS’ is $590M.

Isis’ collaborations are as good as its competitors but it has a much stronger pipeline and it’s a much better diversified company. Compared to ALNY and RNAI I think ISIS’ market cap is too low, and that the stock is a good buy even near its 2 year high. A note of caution, however. Technically, ISIS is deteriorating.  It might be better to watch for a bit and see if it continues to fall a bit and then make a move.

“Any trader or investor who ignores the power of macroeconomics over the world’s
financial markets will, sooner or later, lose more than they should—and if they are
trading on margin, perhaps more than they have.”
 -- If It's Raining in Brazil, Buy Starbucks

CONTACT INFORMATION
Peter Navarro
Irvine, California USA
Email  |  Website

DISCLAIMER: This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling, or holding of any financial instrument whatsoever. Trading and investing involves high levels of risk. The authors express personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The authors may or may not have positions in the financial instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future performance.