For Friday May 24, 2013, We Recommend Against Investing

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Investment Recommendations:

Avoid US stock markets right now.  Price inflation hedges remain good long-term investments.  Continue to avoid all bond investments.

 Technical Comments:

The S&P 500 declined again on Thursday, dropping 0.3% on volume below Wednesday but above the 30 day moving average.  Our pattern detection software classifies Thursday a light-volume down-day.  The above average volume could be considered a strong-volume down-day, but that is subjective.  Objectively the only strong-volume down-day in the past 5 weeks was this past Wednesday.  If the S&P 500 declines again on Friday by about 33 points (-2%) our automated forecast would likely change to an uncertain trend as a result of our stop loss algorithm.

Subjective Comments:

The market decline on Wednesday was largely attributed to comments by Fed Chairman Bernanke and the published minutes of the Federal Open Market Committee (FOMC).  Popular financial press articles on Thursday blamed the drop in world markets (Japan and Europe) on the same trigger.  ZeroHedge.com provides a more detailed analysis that suggests the drop in the Nikkei (Japan) index was not the FOMC minutes but instead something else.  ZeroHedge notes the Nikkei opened way up and the turned lower in response to soaring bond yields.  This is important to understand.  The Bank of Japan has been printing money aggressively; so much that price inflation fears are starting to drive bond yields up.  Lenders (bond buyers) fear repayment in depreciated Yen, so they’re demanding a yield premium to compensate.  The Nikkei dropped almost 7% causing the Bank of Japan to flood the market with liquidity.  In other words the problems caused by Japanese money printing were addressed by a massive injection of more money printing.  The contagion spread to Europe and then spilled over to the US on Thursday.

Regardless of what might cause panic selling or manic buying on any given day, the important thing to watch when money is being printed aggressively is the rate of money printing which causes the bubble-boom and subsequent bust.  It’s also important to watch labor productivity, the public’s desire to hold cash balances and other factors that affect price inflation.  Money printing is the classic definition of “inflation” – an increase in the money supply.  A general rise in prices is the result, and this is the common modern use of “inflation”.  We try to be very specific and talk about “price inflation” to avoid confusion.  The weekly data from the Fed was published regarding the US M2 (not seasonally adjusted) money supply, and we have analyzed it.  After dropping dramatically for 2 weeks following the end of the first quarter it appears in the past 2 weeks the US M2 growth rate has resumed its prior upward rate.  This zigzag motion is material on the overall impact it will have on the economy and US stock market.  The long-term growth rate over the past 14 months is around 6.5%, and that follows a prior long-term growth rate of around 7.5%.  Austrian Business Cycle Theory explains that an accelerating growth rate of the money supply is needed to initiate and sustain a bubble-boom.  The zigzag growth, likely due to maturing loans that cluster just after each quarter point, is effectively slowing the M2 growth rate.  While the growth is still positive it is not strong enough to sustain the bubble.  The odds of a crash are increasing and the timing of the crash is drawing closer.  Price inflation remains a concern for the future because the money supply is still growing.

Our technical forecast still signals market growth and there has been only 1 strong-volume down-day in the past 5 weeks.  When we subjectively consider the US M2 money supply trend we think the past 5 weeks is likely the ending of the current bull market.  Time will tell.  It is better to be out of the market early and miss the little last bits of the rally then to be in a day too long and suffer the consequences of the crash.  This is why we continue to recommend against investing in US markets right now.

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