5/12/09: Rally pulse, sell in May, an economy not for the people, the Afghanistan quagmire, and bankrupting CA and D.C.

So much for that rising stock market. Andy Kessler at Opinion Journal thinks it was a sucker’s rally “because there aren’t sustainable, fundamental reasons for the market’s continued rise.” He offers three reasons for the brief bull: the Federal Reserve and Treasury succeeded in taking armageddon off the table now that “No more failures” is policy, the Fed has succeeded in driving short-term rates to zero so people prefer stocks over cash, and the Fed’s quantitative easing via purchasing “up to $300 billion of long-term bonds as well as $750 billion of mortgage-backed securities” put cash on the street — Wall Street, that is.

Relax, says Schaeffer’s Investment Research senior analyst Richard Sparks. He told Jeff Cox at CNBC that a return to a Depression-era nosedive in stocks is unlikely. “It doesn’t look like any of the really bad things out there that exist as potential worries could blow up in our face and cause us to have a very sharp downturn.”

Cox thinks government is on the market’s side, as its aggressive “intervention in 2009 — as opposed to relative inaction from the public sector in the early stages of The Great Depression — would seem to work against another prolonged downturn.”

To which CXO Advisory would add that the old chestnut to “sell in May and go away” has little merit. It found that the “effect may be stronger during secular (but not cyclical) bear markets. However, there probably is no reward on average for being long stocks during either the good or bad seasons in bear markets. Conversely, there probably are rewards for holding stocks during both the good and bad seasons in bull markets.”

So, the onus is on you to understand whether we’re in a bullish or bearish backdrop. Don’t expect answers from the calendar. (As an aside, surely you didn’t think investing could be as easy as selling every May and buying every November, did you? For shame!)

If the rally is over, it will come as no surprise to Tim Duy, who never did buy the story that we’re turning a corner. He thinks the cyclical downtrend that began in the second half of 2008 as commodities deflated may be wrapping up, but that the bigger problem of “an over-leveraged household sector that pushed the U.S. economy into what was initially a mild recession” faces a long path ahead.

He believes that the “story of the last 25 years has been an increasing role for household spending, rising to perhaps a peak of conspicuous consumption, with the motto ‘a filet mignon in every stainless steel oven, a RV in every garage.'” Too many businesses are now built for that trend, and are in trouble because “the factors that supported the trend — a steady march down in the saving rate to zero and a steady march up in household debt, coupled with monetary policy that had room to go from 15% short rates to zero over nearly three decades, are at an end.”

The government wants people to keep buying trifles on credit cards, but people are finally — finally! — balking. Good for the people, bad for the economy and the stock market.

Does make you wonder, though, doesn’t it? How useful is an economy in which what’s good for the people is bad for the country? Seems to me a little at odds with the spirit of the Declaration of Independence and the Gettysburg Address. You may recall from the latter something along the lines of American government being of the people, by the people, for the people. A quaint notion, I know, but one a few of us think worth retaining over the decades.

Stratfor has little confidence in the Obama Administration’s strategy in Afghanistan. Washington wants to reach a political settlement with the Taliban there, but must first “use military power to bring the insurgents to the negotiating table,” a task made difficult by the U.S. limiting its troop commitment to 100,000.

That “deployment is not enough to make a difference on the battlefield” so the U.S. will “rely more heavily on air power in its campaign to degrade Taliban capabilities and confidence.” That’s a problem because air power means “civilian casualties are all but inevitable” and such collateral damage will “both strengthen the argument that Taliban forces are fighting against foreign occupiers and further erode whatever legitimacy Karzai’s regime can claim.”

Thus, “it seems unlikely that the Obama administration will be able to turn things around in Afghanistan as the Bush administration did in Iraq.”

California’s taking heat for its impending bankruptcy. It’s not officially being billed as that, of course, but things are bad enough that Governor Arnold Schwarzenegger said yesterday the Golden State will suffer “a very serious cash crisis” if May 19 ballot initiatives don’t pass. Too bad, then, that UPI reports polls show “California voters will handily reject the ballot initiatives, which are intended to help the state fill a budget shortfall.”

Budget shortfall — there’s an understatement. Nothing happens small anymore. California’s tax increases passed in February still left it with another $8 billion deficit in the next fiscal year, and that’s assuming the ballot measures pass. If they don’t, which is likely, the deficit will probably get as high as $14 billion.

Schwarzenegger backers accuse voters for wanting government services while refusing to pay for them. John Fund at Political Diary, however, says “the larger truth is that the Golden State is now basically controlled by public employee unions who systematically block any reform of the state’s government. Governor Schwarzenegger was elected in 2003 to tackle exactly that problem, and his failure only ended up exacerbating the long-term budget disaster he inherited.”

Not that Sacramento’s alone. Washington, too, seems hell bent on paving the way to bankruptcy court. Andrew Taylor of the Associated Press reports that the U.S. government “will have to borrow nearly 50 cents for every dollar it spends this year, exploding the record federal deficit past $1.8 trillion under new White House estimates.” That’s the red zone, he points out, because as “a percentage of the economy, the measure economists say is most important, the deficit would be 12.9% of GDP this year, the biggest since World War II.”

How does that compare to historical red alerts? “In the past three decades, deficits in the range of 4 percent of GDP have caused Congress and previous administrations to launch efforts to narrow the gap.” Finally, polls “suggest Americans are increasingly worried about mounting deficits and debt.”

I hope so. The country’s balance sheet is already so out of whack that China sees an opportunity to become the world’s new safe haven. (See yesterday’s perspectives below.)

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