For Tuesday, April 10, 2012, the market forecast is uncertain

Our forecast for US stock markets is an uncertain trend.  If you choose to liquidate and hold cash, please avoid money market funds as they have exposure to European sovereign default risk.

Technical Comment:

The S&P 500 declined again on Monday, this time 1.1% on volume above last Thursday but below the 30-day moving average volume.  The volume was high enough above Thursday to consider Monday a strong-volume down-day.  Monday makes the 4th strong-volume down-day in the past 8 trading sessions for the S&P 500.  The patterns for technical weakness continue to develop but are not fully formed in predicting further downward motion.  Our stop-loss algorithm was triggered last Wednesday and now does not appear to be a false-positive.  Other technical indicators suggest further market weakness.  Now is probably a good time to move to a risk-off position or otherwise liquidate equity holdings.  The S&P 500 would have to advance about 16 points (1.2%) on Tuesday to return our forecast to a growth trend.

Subjective Comment:

The weak jobs data last Friday showed a slow-down in hiring.  This is the most recent information to serve as a source of fear and uncertainty for US markets.  The Chinese and European economies and markets are also under stress.  It is very likely a lot of market participants are concerned on-going difficulties in world markets will cause decline in the US.  The true root cause of a bubble popping is when money supply growth slows or fails to accelerate after a long period of steady growth.  Austrian Business Cycle Theory explains the details of cause and effect.

As we noted Thursday last week, the US money supply growth (M2 – Not Seasonally Adjusted) has been growing at a steady 7% since early August.  For the past 2+ years M2 has been growing at a steady 7% annualized rate with the exception of a 25% rate for two months last June and July.  US banks accelerated lending last summer which caused the 25% growth rate.  We have now had 7 months of steady growth (7%).  ABCT explains the longer M2 continues to grow at 7% without accelerating, the more we risk a pop of the current bubble-boom.

The Federal Reserve has been conducting a bond buying program called Operation Twist.  It consists of selling short term US bonds and using the proceeds to buy long term US bonds in an effort to keep long term interest rates low.  This did not work back in the 1960s when it was first attempted and it is failing to keep long term rates down now.  What Operation Twist does not do is add to the money supply.  Since the conclusion of Quantitative Easing (QE2) by the Fed the only source of money supply growth has been US banks via the fractional reserve lending money multiplier.  US Banks have just under $1.5 Trillion Dollars of excess reserves, so they can resume lending at a rapid rate when they choose.  For 7 months they have kept their net originations of new loans at a low rate, resulting in the 7% M2 growth.  It is impossible to guess if the current money supply is sufficient to keep the market growing or not.  Our automated forecast is producing warnings that are harder to now dismiss as a false signal.  “Uncertain” is the best description for our forecast right now.  It is just as likely growth could resume.  The guidance from our forecast is to liquidate equity positions or otherwise move to a risk-off position.  Subjectively we think this now is a good time to play defense and see what happens.  We still recommend selling all your bonds and researching investments that hedge against price inflation which will be getting worse.

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