Stocks in New York closed nearly on their lows on Thursday. That’s usually not a good sign. It indicates there might be a bit more selling pressure. But they did manage to close up just ahead of the session lows, which leaves us wondering where things stand at the end of the week.
U.S. investors are on edge because another employment report is due out tomorrow. You can’t really have a recovery if an economy isn’t producing jobs. And so far this recovery – which is what some people are calling it – isn’t producing any jobs. No jobs, no recovery. No recovery, no justification for higher stock valuations.
But who needs justification when you have speculation? That’s what low interest rates encourage. And that’s the market we have. You can trade it. Just be prepared for some turbulence next year. Reality will drag stock prices back down like gravity. But central bankers will try and push them up with more money and governments will chip in with more stimulus.
For example, in today’s Australian, Michael Sainsbury reports that the Australian economy will, “ride a second wave of China stimulation.” He writes that, “The Australian economy is set for another free kick as the Chinese government is expected to sign off on a second stimulus package after its annual Central Economic Work Conference to be held in Beijing at the weekend.”
Chinese bank lending and credit growth is already through the roof. Last year’s $685 billion stimulus program sent fixed asset investment in China much higher. It was, by most accounts, hugely supportive of resource prices, and thus most welcome in Australian resource circles.
But frankly another dose of stimulus from China sounds like madness. There is already growing anecdotal evidence that China has overinvested in production and accumulated large commodity inventories. Bloomberg reports that warehouses at the London Metals Exchange hold enough aluminium to produce 69,000 Boeing 747s.
Clearly that amount of stockpiling is not matched by current demand. And if it’s anticipating a booming recovery, it will be some recovery. So you have to consider what else this sort of information might mean.
When we think about it for a second, it might mean that investors and institutions are again thinking that commodities are the best refuge in an inflationary world. It could be dollar carry traders. Or speculators. But it’s most likely investor’s expressing a preference for real assets.
This is a big warning sign, though. The biggest mistake made by natural resource investors in 2008 – your editor included – was believing that resource stocks would be a good defence against the collapse of the credit bubble in the financial economy. This turned out to be painfully wrong. Resource stocks, along with commodity prices, fell as the deleveraging of the household sector began.
Since then, of course, stocks have rallied as policy makers try to engineer a “re-leveraging” (and backdoor recapitalisation of the banking sector). Households continue to wind down debt growth and increase savings. But governments are taking on more debt than ever and spending at a furious pace.
This means that the first half of next year could see stock prices float higher on this monetary and fiscal stimulus. It won’t be grounded in any fundamental relationship to earnings growth. But you probably wouldn’t complain too much if it helped you repair some of the damage to your portfolio from the last two years.
That said, our approach for 2010 would be to sell into rallies and gradually reduce the allocation to shares. The use of trailing-stops will help you take the emotion out of your selling decisions and lock in profits. Of course if you believe we are in a long-term bull market, you will deride the use of trailing stops because it forces you out of positions that may cost you more to re-enter at a later date.
But it comes down to what you want from the market and what it’s realistic to expect next year. We reckon it will be range-bound, as Dr. Marc Faber suggests in his latest Gloom, Boom, and Doom Report. You’ll need to be a good market timer if you want to buy low and sell high. If you’re a buy and holder, well, there could be quite a few restless nights.
And the biggest risk by far is that China is entering big bubble territory. That would be especially hard on Australia. Harder, even, than a commercial real estate route or another decline in U.S. housing prices related to wave of Option-ARMS set to recast next year. Pick your poison.
At some point, you’d expect quantitative easing policies to either be curtailed (because they devalue a currency, which sooner or later a population notices in decreased purchasing power) or interest rates to move higher. This would trigger another mad scramble in the markets. Even if central banks like the Fed succeed in manipulating rates lower for awhile, the market is already responding by bidding up gold (an asset that is no one else’s liability).
In the meantime the great charade goes on. The big benefit to you is that a rising stock market is the perfect cover for you to make a serious evaluation of your investment strategy and asset allocation and make changes by choice, not by necessity. In a falling market with forced liquidation, you have a lot fewer choices.
While your editor is away next week in South Africa, you’ll hear from three guest editors. All of them are in charge of various investment beats, which means rather than writing about the market each day (as we do) they are beating the bushes for the best investment ideas for next year. They’ll share them with you next week. Be sure to give them a piece of your mind!
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