For Friday, June 1, 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 index declined 3 points (-0.2%) on Thursday with volume above Wednesday and higher than the 30-day moving average volume.  The decline was just enough to trigger the stop-loss algorithm in our automated process and change our forecast to an uncertain trend.  If the S&P 500 advances at all on Friday our process will likely flip back to a growth trend.

Subjective Comment:

Thursday was another strong-volume down-day for the US market.  This is a continuation of the weak technical pattern of light-volume up-days with strong-volume down-days.  Our stop-loss algorithm produces many false starts under these conditions and that is what our recent “growth trend” forecast has been.  If our forecast switches back to growth on Friday, it will likely be another false start.

We have carefully analyzed the US money supply numbers published by the Federal Reserve every Thursday.  Last week we discussed at length how the slowing growth rate of the money supply is showing out-of-control conditions on the control chart we use to watch for changes.  This week the residual value fell below the lower control limit again, so we now have 5 consecutive weeks of out-of-control conditions.  This is solid confirmation the growth rate of the US M2 (NSA) money supply has slowed.  The growth is still positive, so price inflation will continue to be a problem.  However, the slowing growth rate means the current mini-bubble-boom in the US economy and US stock market is running out of the liquidity needed to sustain the boom.  The US market will move sideways or decline from here.  Growth for US equities will not happen in the near future.

We strongly recommend our readers to hold and accumulate cash positions.  Avoid US Money Market funds as they have exposure to European defaults.  The Eurozone debt crisis is getting very bad, and there will be losses by owners of Eurozone sovereign bonds.  Avoid US bonds as well.  The 10-year US treasury is at a record high price.  It is very unlikely to continue moving up from here.  There has been a short-term lift in US bond prices as money flowing out of Europe is being parked in what is thought to be “safe” US bonds.  Once price inflation gets worse in the US our bond prices will fall.  Hold any price inflation hedges you own for the long term, but consider accumulating cash instead of additional price inflation hedges right now.

Here are key passages from some of our previous posts worth reading if you have missed a few days:

…at EconomicPolicyJournal.com was an excellent post providing one possible explanation for the current slowing of the money supply. We encourage you to read it. There was also a follow up post with additional details of how the Federal Reserve controls the money supply to fix interest rates. To summarize these articles, it appears the Fed is actively managing the money supply to hold the Federal Funds Rate at 0.15%. Money appears to be flowing out of Europe and into the United States in response to the Eurozone debt crisis which is getting very bad. This flow of funds would cause the Federal Funds Rate to decline, so the Fed must remove money reserves from the US banking system in order to keep the rate from dropping. This is a highly plausible explanation and is well supported. About a month ago we reported the first indications of the slowing growth of the US money supply and have continued to warn about this every week since. Now we have a reasonable explanation of the cause.

 

We have been warning for months to minimize your exposure to US money market funds because many of them are at risk of losses from their ownership of Eurozone debt. Our warning has been based on this older news item, but today there is an additional warning from the US Federal Reserve to money market funds to pull their money out of Europe.