Trainwreck in Slow Motion Continues

The S&P500 slipped 1.2% last week as the bounce off the early July lows seems to be fading.  After after almost touching 1,100 the S&P fell apart on Friday, without any obvious spark for the sell-off.  The volume, not surprisingly, surged–especially during Friday’s drubbing.  Again, this shows conviction behind the selling.  Not a good sign for the bulls.  The VIX index jumped back up 5% for the week, also supporting the week’s price drop.

The economic data continued to disappoint.  Retail sales were far lower than consensus estimates.  The Empire State survey fell substantially.  Industrial production was slightly better than expected. Initial jobless claims were better, BUT only because they were seasonally adjusted down to account for the automotive industry’s usual (and temporary) summer layoffs.  The only problem with this adjustment is that GM did not have its usual shutdown, so the seasonal adjustment pushed claims down below where they really should have been.  The Philly Fed survey was much lower than expected, and the biggest shocker for the week was the University of Michigan consumer sentiment reading which fell–in one month–by more than it did in many years.  Not good.

Technically, the S&P behaved in a textbook manner.  It bounced off resistance at the 50 day moving average (which also happened to be the resistance provided by the downtrend line that began in late April) and retreated back down.  Although it could still puncture these resistance levels over the next few weeks, the downtrend should remain intact as long as the 200 day moving average is not seriously violated.  On a weekly basis, the clean downward sloping channel is working beautifully.  The S&P bounced down from the top of the channel and is now comfortably near the center.

Let’s review the domestic and global economic situation as of the middle of 2010.

In the US, the Green Shoots, close-your-eyes-and-just-believe, optimists are starting to get worried.  As much as the government (with the help of the media) would like us to think that the recovery is well underway, the ugly reality refuses to stay hidden in the closet.  Not only did the economy never rebound, V-style, from its deep plunge in early 2009, but it is clearly about to relapse and start contracting again.  The Economic Cycle Research Institute’s weekly leading indicator reading, at -9.8%, all but guarantees another recession in the next three to six months.

In Europe, the situation is no better.  The EU and IMF bailout of the PIGS is in danger of being exposed for what it really is–a mask or disguise that’s designed to buy time.  The bailout, at root, might provide more debt to nations whose main problem is having too much debt.  This kick-the-can-down-the-road strategy will not work much longer.  As Greece sinks into austerity, and as the ECB scrambles to buy up pretty much all of Spain’s debt (because nobody in the private sector wants it at existing interest rates), everyone’s wondering who will be next to implode.  Italy?  Hungary?  France?  The list is long.

The we have Japan, Asia’s dead man walking.  According to the most recent Economist, Japan’s banks have just the new (again!) government that they will not be able to keep buying the government’s debt much longer.  If pension funds are now becoming net sellers (because of the rapidly aging and shrinking society), then this leaves the government in a death trap.  Interest rates will need to rise sometime in the not too distant future.  And when they do, Japan will blow up.

Finally, there’s China the seemingly unstoppable juggernaut that’s taking the world’s economy by storm.   The only problem is that this is exactly how the US was perceived in 1929 and Japan in 1989–just before both entered their respective DEPRESSIONS.  China’s export driven and infrastructure dependent growth model is creating massive distortions at home (and abroad).   That which cannot continue, will not continue.  The only question is when.  And by the way, when China implodes, look for accompanying implosions in Australia, Canada, Brazil and parts of Africa.  Why?  Because they’re the economies that feed natural resources to the Chinese manufacturing and building machine.

Where does this leave us?  Tragically, it leaves us watching a train wreck in slow motion, and not being able to do much about it.  We know it’s going to happen.  We know it’s going to be very damaging, to the US and the rest of the world.  And we know it’s going to take time to play out, several years, if not the rest of this decade.

That means that the most important thing one can do is to prepare for this future.  Think about how these events might affect you.  And think about what you might need to do–first, to avoid getting hurt, and then, to gain some advantage. 

Good luck.

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