It Ain't Over Till It's Over.

Since topping out in October 2007, global stock markets have been characterized by two distinct phases: a decline through January/March this year, and then a rebound until mid-May. The predominantly weak undertone of the past few weeks has naturally again raised the question of whether the strength from January/March until three weeks ago has simply been a bear market rally, or whether it in fact was a longer-term upturn in stock markets’ fortunes.

The Dow still has a date with destiny on the downside, and I went on record last year calling a primary bear trend for the U.S. (and most other developed) stock markets, and more recently described the most likely medium-term scenario as a “muddle-through” type of pattern . And this view still makes sense.

First up is a long-term chart of the S&P 500 Index together with a simple 12-month rate of change (or momentum) indicator. Although monthly indicators are of little help when it comes to market timing, they do come in handy for defining the primary trend. An ROC line below zero depicts bear trends as experienced in 1991, 1994, 2000 to 2003, and again since December 2007.

Next up is a monthly graph of the Dow Jones Industrial Index and its MACD oscillator. The fact that it has been in negative territory since December 2007 serves as confirmation of a primary bear trend.

Primary bear trends, however, are not non-stop declining trends and are made up of secondary up and down wiggles. In order to determine where in the bear phase we find ourselves at this point in time, let’s look at a number of shorter-term indicators.

The next chart is the CBOE Volatility Index ("THE FEAR INDEX" or VIX- shown above and on the left side of the page), an indicator that moves in the opposite direction to stock prices and shows the level of complacency (lower values) or nervousness (higher values) of market participants. The present level of 21 still has a way to go before reaching the 30 plus levels of August and October 2007 and January and March this year, but may not necessarily reach those levels in this movement as various oscillators are starting to approach overbought conditions.

Although banks are looking oversold on short-term considerations, they would need a longer convalescence period in order to rebuild their balance sheets. And until this key sector shows clear signs of a reversal, I have difficulty seeing the primary bear trend turning around in a hurry. Furthermore, the market is still dangerous, and Monday and Tuesday will be 90 degrees in time from the March low... These are potent reversal dates! I am not in the “end of the world” school, but also have little reason to see a more optimistic scenario than “muddle-through” action, typified by sub-optimal returns.

Do Not Be Divided.

"You shall hold fast to the bond with God, all of you, and do not be divided. Recall God's

blessings upon you - you used to be enemies and He reconciled your hearts. By His grace, you

became brethren. You were at the brink of a pit of fire, and He saved you there from."

- (3:103) The Quran.

This beautiful message in verse 103 of chapter 3 of the Quran is simple: Do not be divided!

Bernanke's Nose Is Growing Longer..

I've been staring in amusement at Ben Bernanke's latest proclamation: "Danger of downturn appears to have faded":

"Despite a recent spike in the nation's unemployment rate, the danger that the economy has fallen into a "substantial downturn" appears to have waned, Federal Reserve Chairman Ben Bernanke said Monday.

"The Fed's powerful doses of interest rate cuts, the government's $168 billion stimulus package, further progress in the repair of problems in financial and credit markets, a gradual ebbing of the drag from the deep housing slump and still solid demand from abroad for U.S. exports should help the economy over the remainder of this year", he said.

Wishful Thinking or Blatant Lie? Bernanke’s statements are like standing in front of a tsunami proclaiming "The Worst Is Over" before the wave even hits the shore.

Here's my take: Before we can say the worst is over or the danger has passed, the storm has to reach shore first. With that in mind I thought it might be interesting to look at a few headlines of things that are going to happen but have not happened yet.

The economic picture is worsening across the board. And not just in the US but in the UK and Europe as well. A housing bust is now underway in the UK. Inquiring minds may wish to consider UK Housing Market Seizes Up. In the meantime, Until Things That Have Not Happened Yet Do Happen, it defies credibility to suggest that danger has faded.

Micheal W. Masters' Testimony.

http://hsgac.senate.gov/public/_files/052008Masters.pdf

Sharp Default Spike in Prime Mortgages.

Economic data in the past two days supports the view that the American consumer may finally be rolling over.

Last night's non-farm payroll data showed the biggest jump in unemployment since 1986, from 5.1% to 5.5%. While job losses were in line with analysts' expectations, the increase in joblessness caught investors off guard. The data was worse than expected.

As for mounting evidence the economic malaise is spreading up the socio-economic ladder, data released yesterday from the Mortgage Bankers Association shows prime mortgages are following their subprime brethren into the abyss.

According to The Wall Street Journal, 39% of subprime borrowers with adjustable rate mortgages are at least one month past due, while 10% of prime adjustable rate mortgages, or prime ARMs, are late on their payments. Prime defaults, however, are rising more rapidly. Things are getting worst off than better.

The prime market dwarfs that of subprime loans. While many are looking at Alt-A -- the market between prime and subprime -- as the next shoe, prime is far and away the bigger risk.

Prime mortgage-backed securities, especially those backed by Fannie Mae (FNM) and Freddie Mac (FRE), are structured to handle very few losses. Even though prime default rates are still much lower than subprime on an abslute basis, deviations from historical trends blow up securities, no just high delinquency rates.

Mathematical models used to create mortgage-backed securities analyze historical data to predict default rates and movements in the prices of homes. Property values have already fallen more than expected, reducing the worth of mortgage-backed bonds. As delinquencies rise relative to historic norms, prime securities will face the same cash shortfalls that have destroyed the value of subprime bonds.

Money center banks like JPMorgan Chase (JPM) and Bank of America (BAC) have thus far skirted many of the same subprime-related losses that ensnared Citigroup (C) and Merrill Lynch (MER). Their focus on borrowers with better credit has helped keep them out of the mire.
As economic conditions worsen and home prices continue to fall, prime securities will become increasingly toxic. The fallout is likely to materialze in 2008 or early 2009, but its a very long train, running down a very steep hill. Investors would be wise to step aside and let it pass...

Itu Batu Je !

Cows Are Flying.

There's one commodity group down year-to-date: Livestock. Among the few items I haven't seen picked apart on the much debated CPI report about runaway inflation was the fact that nine different meat indexes were down in price year-over-year. Yes, the U.S. government officially tracks“Chuck Roast” and all its cousins. But you were told everything is going up?

Here’s the deal, ranchers were liquidating their herds not because they wanted to, at lower and lower prices, but because they had to. Their costs were going higher and higher.

Pressure on crops of cattle feed had supply so low that there was yet another clue hidden inside the widely discussed USDA planting report in March. Pasture land (for grazing herds) was turned into crop rows.

So what happens if tons of supply of cattle are taken off the market at the same time that, and this part might be the safest prediction I’ve made in my career, Americans decide they still like to eat? A look at the April 2009 Live Cattle futures contract, predicting a much different story than 2008’s falling prices. Cows are flying now!