Liquidity galore

With earnings season arriving, the equity market continues its rally unabated since its February low, on ever-diminishing volume. In fact, the S&P has had 36 consecutive days without a pullback of 1% or more. Truly amazing.

The recent surge in the past few weeks has sent several technical indicators into extreme territory, as per SentimenTrader:
Indicator Extremes

May 15, 2008 was the last time these levels were breached, when the S&P hit its 200DMA and sold off from 1425 to 665. Indeed, we have retraced approximately the same amount from the October 2007 market top and subsequent decline as markets did in 1930 after the ’29 crash, before their top and subsequent decline of more than 85% more. A similar move is unlikely at the moment, given the strong uptrend with no clear topping signals (besides possible parabolic moves– and even that is debatable), but a significant, sharp move down in the future in the future if/when a new downtrend is in place is not unlikely. The Fed is adamant about its ZIRP however, and Bullard and Lockhart re-confirmed this policy today.

After taking a huge beating since last November, the euro made a large gap up this week on news of an emergency bailout-of-last-resort amounting to about €40B at concessional rates around 5% for 3yrs. However, GGB spreads didn’t react significantly and the euro has pared much of its gains since. According to Market News:

A senior Greek Finance Ministry official told Market News that With the call for a meeting today, Greece is seeking to iron out “immediately” exactly what the details of the joint EMU-IMF plan will be, and what fiscal, macroeconomic and other conditions will be imposed on Greece in exchange for the aid.

And Zero Hedge‘s commentary on the matter:

Follow the motions: with Greece imploding once again, and bonds back to 7%+. let’s try everything all over again and hope it works this time: IMF is *yawn* sending another team to Greece, Dominque Strauss-Kahn reports, even as Greek PM G-Pap has sent a letter to top officials in Europe and the IMF, requesting talks to discuss the details of a contingency financial support plan for his country. Um, we did that charade last weekend: it worked for 24 hours, just long enough for you to issue $2.1 billion in Bills, which auction by the way recently reported was a scam, with half the bids being fake! Well, congrats, but it ain’t gonna work any more, as the market has called your half-pregnancy bluff. But that does not stop Greece, and its ex-Goldmanite head of public debt management, from demonstrating just how clueless it is when accessing the capital markets. At least Greece is acknowledging that at this point formal aid request is merely a matter of a few days. We are now convinced that Greece is in fact doing all it can to be allowed to default, yet Germany and Europe are forcing a two tier sovereign debt capital structure, with new guaranteed money becoming the Secured tranche in the Greek balance sheet. Of course this means that any demand for the “Unsecured” portion will disappear as soon as the bailout mechanism is finally activated.

And according to ShadowCap contributor Logan Schuler:

Deciding to come to Greece’s aid has placed all of the EU on a slippery slope toward self destruction. Greece is by no means the only EU country with material problems. Take Italy for example (who very likely is next in line for a bailout) who has had one of the worst economies in all of the EU. Last year alone their economy shrank by 5.1% and it is projected to grow by less than 1% by this years end. Greece may have a shocking debt/GDP of 125%, but Italy is not far behind at 115% with expectations of around 120% in 2010-11. And after the EU is forced to come to Italy’s aid, next will likely come Spain. The problems seen in Greece will undoubtedly re-emerge more serious and vast afflicting much of Europe. It may not be today, but in due time.

The loaded gun has been cocked and even still the market is not impressed. It seems as if the bailout may be activated soon, especially as early summer maturities for Greek debt come due. Though this may provide a short-term boost to the euro, we remain bearish on the long term as the credit risk is merely transferred to nations like Germany, which have problems of their own. Additionally, the ECB’s interest rate policies may be forced to become increasingly dovish to pick up the PIIGS slack, especially considering Greece’s economy doesn’t compare in size to Spain’s. And then there is the whole CEE debacle. The majority of our EUR/USD shorts were covered in late February and mid March in anticipation of market politicization (which indeed occurred), but we will be looking to re-short if there isn’t a significant trendline break to the upside if/when the bailout is activated.


In a previous post, we mentioned the link between China, America, and Australia. We continue to believe the AUD/USD is the most important metric for risk assets, as Chinese capital is flowing into Australian commodities and assets, as the RBA’s very hawkish policies are pushing the AUD up, even as Australia’s housing bubble may be possibly reaching its peak (March reflected Australia’s first resi real estate price decline in several months), rather than into US Treasuries, as has typically been the case. Though we believe that parity in the AUD/USD is definitely a possibility and that the Aussie Dollar may continue up before it reverses down, the 200DMA is a very significant level for this FX cross and a breakdown through this level is the ultimate short trigger for risk assets, particularly commodities (equities may lag hard assets in the event of a decline). The 0.94 level is very significant, as it represents six-month-long resistance and has been where the Aussie has stalled since the RBA began raising rates last October. A breakout through 0.94 should be a bullish for risk assets but a failure could send it reversing down and possibly through the important 200DMA. This is a pivot point in this important FX cross and risk assets as a whole.


Gold continues powering ahead, as sovereign credit risk remains the issue at hand, even as the USD has been rising in recent months. Gold’s chart is bullish and a breakout through 1160ish/oz should send it testing and possibly breaking December highs in the 1210s.


Meanwhile, crude has rallied off its 200DMA (from its February selloff) and broke out through the important 83/bbl level. Energy was the one weak sector remaining in this market and even that has rallied off of weakness now. $86 is an important level to clear now, as it represents previous support from November 2007 and February 2008. $90/bbl, the September 2008 low, is another key level to watch. Given the speculative nature of this rally and the unwind of the contango trade from early 2009, a reversal (especially a breakdown through the 200DMA) could be sharp and swift. However, for now, the trend remains up, albeit weakly.


Rates are on the rise, as the 10yr approaches breakout through the 400bps resistance level. A 10yr at 4% and oil at $85/bbl while unemployment is > 9% is not at all bullish for recovery and could be the catalyst for decline. However, the recent breakout attempt was met with prompt selling and if the Greek crisis continues (or worse, Eurozone contagion takes over), a rush to “safety” into Tsys could occur. Record supply issuance of Tsys coupled with massive commodities imports from China explain the surge in yields, from a capital flow perspective, so if Australia begins weakening and/or global deflation reasserts itself, expect yields to go right back down. Sovereign credit risk is a huge issue, even with the United States, but at this point inflation hasn’t shown itself (though we very highly suspect it will after the next bout of deleveraging) and Tsys might be a steal at these levels. As always, the chart will confirm. If bond prices keep falling, then the 30yr dropping to 113 and below may prove to be the straw that broke the rally camel’s back.


Despite the recent spike in yields, the trend for the 10yr yield remains down and there is no evidence of a reversal to the upside at this point, from a longer-term timeframe perspective. This is suggestive of near-term deflation and bonds being a good buy at these prices.


According to the Telegraph, war between Israel and Hezbollah is “imminent”, with specific warnings coming from Lebanon and Syria. If this were to occur, expect oil prices to surge, rates to jump up with them, and the “recovery” to be unmasked and quickly reversed.

And according to Reuters, George Soros, in our opinion the greatest investor of all time, has eerie words for our current markets and economic policies:

The success in bailing out the system on the previous occasion led to a superbubble, except that in 2008 we used the same methods. Unless we learn the lessons, that markets are inherently unstable and that stability needs to the objective of public policy, we are facing a yet larger bubble. We have added to the leverage by replacing private credit with sovereign credit and increasing national debt by a significant amount.

ShadowCap readers are well aware we are bearish on the recovery, as well as equity markets, and we share Mr Soros’s views that central bank policies have reflated a bubble doomed for yet another collapse. However, as markets keep rising, the trend is your friend, and our trades reflect that. When the top is in, the charts will exhibit clear distribution, lower highs and lower lows, and market leaders showing parabolic blow-off tops and/or new downtrends on high/expanding volume. Until then, buy buy buy the dips.

Be watching bank earnings. Bank stocks have been on a straight-line up tear since February lows and it will be interesting to see if this is a buy-the-rumor, sell-the-news type of deal. We aren’t positioned either way as far as short/long bank equity ahead of earnings announcements.

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