BEN, THE COMMIE?
The Well-Timed Strategy for Week Ending August 17th
by Peter Navarro, Ph.D.
August 10 2007

Trade of the Week... Zoltan (ZOLT)

Carbon fiber is used in everything from aircraft and autos to racing bikes and wind turbines.  It is one of the most important building blocks of the 21^st century.

ZOLT is a pure play on carbon fiber, which is in heavy demand and lacking adequate suppliers.  ZOLT is at or near its 52-week high and had a rough day on Friday.  Put it on your watch list and let it continue to deteriorate with the deteriorating market.  At some point, what I like is a call option out to 2009 or 2010 to take out the short range volatility.  So get it on your radar screen….

The Market Edge Market Summary
Market Edge Market Summary  http://www.marketedge.com/

Another wild week marked by extreme volatility and large intraday swings saw stocks fall back to levels not seen since late April 2007. Following a three day, 476 point rally, the DJIA turned on a dime on Thursday as it fell 387 points (-2.8%) to close at 13270. The rally looked like a classical short squeeze as the financials and tech stocks led the charge. As has been the case of late, Thursday's plunge was blamed on growing problems in the mortgage market which has now spread around the globe. Friday saw more of the same as traders headed for the exits sending the blue chips down an additional 31 points. When it was all said and done, the DJIA managed to gain 58 points (+0.44) for the week and closed at 13239.

The NASDAQ fared much better than the DJIA as the tech stocks held their ground. For the period, the NASDAQ gained 34 points (+1.34%) as it closed at 2544.   Year-to-date, the Dow is up 6.2% while the NASDAQ has gained 5.4%.

Navarro's Big Economic Picture
Ben, the Commie?

The good news for traders is that volatility is finally back after an extended vacation on the Isle of Complacency.  The bad news for buy and hold investors is that the market trend is likely broken and that risk will be more to the downside than up for the foreseeable future.

At least for this week, Fed Chairman Ben Bernanke was able to stick his finger in the dike with an injection of liquidity not seen since the post 9/11 Greenspan move.  Central banks around the world have joined in – from Europe and Canada to Japan and Australia.  And things are at least stable for now.  But really now, what the heck is Ben doing?

Me thinks these central banks are making a huge mistake by not allowing market forces to purge the dumb and reckless who have bet their farms on junk mortgage bonds.   To be clear here, Printing Press Alan (Greenspan) got us into this mess with an over-easy post 9/11 monetary policy.  He was helped by a whole army of lenders in residential construction who got homebuyers into palaces they couldn’t afford with no money down and adjustable rates prone to explode.  And don’t forget the Chinese financing our debt and keeping mortgage rates low enough long enough for millions of Americans to get trapped into what is now foreclosure city.

Clearly, what is happening now in California isn’t staying in California – but rather the Golden State of Foreclosures is now spreading its contagion around the world. So along comes Bernanke to bail out the worst offenders – acting more like Karl Marx than Adam Smith.

So here’s the real point: Bernanke’s move is unsustainable.   The reason is that if he keeps injecting liquidity into the system and then lowers interest rates, this will merely put much additional downward pressure on the dollar and drive up interest rates on the long end of the yield curve where the true stimulus (or lack thereof) lies.  Eventually, this blows up really big.

So I say to Ben “Man Up.”  Let the markets take the licking they so richly deserve for such irresponsible behavior in the credit markets and after the dust settles, the economy and the markets will both be better for it.  Greed is good.  Too much greed should not be rewarded.

This Week's Market Movers

The macro calendar is reasonably heavy this week.  The biggies are retail sales on Monday, the PPI and trade on Tuesday, the CPI on Weds., new home sales on Thursday, and consumer sentiment on Friday.

My pick for biggest market movers are the PPI and CPI.  If they show any sign of hotness, they will quickly reverse sentiment on the odds that the Fed will cut rates in Sept, with those odds being 100% right now.  To put it another way, any signs of inflation would neuter the Fed and leave the markets without their now best hope for help.

The China Effect

The biggest news coming out of China this week was a gambit announced by some lower echelon Chinese bureaucrats to “go nuclear” on US financial markets to pressure the US to back off its efforts to stop China’s currency manipulation.  As noted in Englands Daily Telegraph:

The Chinese government has begun a concerted campaign of economic threats against the United States, hinting that it may liquidate its vast holding of US treasuries if Washington imposes trade sanctions to force a yuan revaluation. Two officials at leading Communist Party bodies have given interviews in recent days warning - for the first time - that Beijing may use its $1.33 trillion (£658bn) of foreign reserves as a political weapon to counter pressure from the US Congress. Shifts in Chinese policy are often announced through key think tanks and academies. Described as China's "nuclear option" in the state media, such action could trigger a dollar crash at a time when the US currency is already breaking down through historic support levels. advertisement It would also cause a spike in US bond yields, hammering the US housing market and perhaps tipping the economy into recession. It is estimated that China holds over $900bn in a mix of US bonds. Xia Bin, finance chief at the Development Research Centre (which has cabinet rank), kicked off what now appears to be government policy with a comment last week that Beijing's foreign reserves should be used as a "bargaining chip" in talks with the US.

Now compare that ACTUAL news story, with the first few paragraphs of my book The Coming China Wars  that poses a fictional story based on future events:

NEW YORK -- Global stock exchanges were devastated this week by the worst collapse in history as a wave of panic selling followed the sun from Asia through Europe and back to Wall Street. The pandemonium was triggered by a Chinese government announcement that it would no longer finance the mounting budget and trade deficits of a “profligate United States” that “refuses to live within its means” and that “insists on scapegoating China for its own internal economic problems.” Nor would China continue to try to prop up “an increasingly worthless dollar.”

As the Chinese began dumping U.S. assets on Wall Street, both stock and bond prices plummeted. The panic soon spread to other exchanges around the world as gold soared to more than $1,000 an ounce and fear of a global depression deepened.

China’s actions have been widely interpreted as harsh retaliation for U.S. congressional passage of stiff protectionist tariffs on a wide range of manufactured goods. With the presidential election less than a month away, both houses of Congress up for electoral grabs, and the U.S. economy stuck in reverse, Republicans and Democrats alike are pushing additional legislation addressing everything from the growing trade in Chinese counterfeit goods, illegal drugs, and ballistic missiles to the international spillover from China’s mounting environmental pollution.

My point here is simply this: China does have the capability to go nuclear and unlike with “mutual assured destruction”, the US really doesn’t have an adequate counter threat.  The question I pose here is whether China had anything to do with this week’s market volatility.  Are they already dumping dollars?

The International Scene - Technical Take

The world economy has been holding up the U.S.  You can see from the technicals on these ETFs that all is not well in the world.  Indeed, we have a very mixed bag.

*Argentina, Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Jordan, Korea, Malaysia, Mexico, Morocco, Pakistan, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey.

“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

The Market Edge Market Summary from www.marketedge.com 

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.