Splashing cash and watching rabbit ears

Flash's latest blog for paddypowertrader:

Splashing the cash and watching the rabbit ears

I’ve had a decent couple of trading days since the last blog. My risky retailers gamble paid off quicker and better than I expected; Darling’s VAT cut fuelled some speculative buying of beaten down shopkeepers, something I didn’t fully anticipate.

My thinking at the moment is that a combination of Christmas cheer, end of year relief, and Obama anticipation could be just enough to keep equities afloat into the New Year. So for the time being I’m happy to stay running with my equity longs, and I’ve been building them up a bit. In the retail sector, I have long positions in Kingfisher, Sainsburys, Marks and Spencer and Morrisons supermarkets, and at the start of Tuesday I added longs in Vedanta Resources, Game Group, Barclays and BT.

The Fed splashes out

Now that quantitative easing (a fancy term for printing money) has seriously taken hold, it’s led me to revise my opinion on gold. The Fed has been working the printing presses hard over the last few weeks. How do we know this? Well, they’re not issuing bonds as fast as they’re buying up assets, bailing out banks and underwriting bad debts. So rather than raising cash from the wider market they’re just pumping out dollars. An awful lot of dollars. This particular bailout is going to cost the US more than it cost them to do World War Two. One analyst says that it’s the biggest, most expensive programme of public spending in American history.

Going for gold

Set against the inflationary effect of printing money, credit remains tight and demand is muted, so this will have a restraining effect on prices. So I’m not expecting gold to go back to $1000 but there will continue to be some upward pressure if the dollar continues to weaken; and nervous investors are looking for somewhere, anywhere to put their money that might help it to retain its value. Commodity prices in general are likely to rise if the dollar weakens, which will also help gold.

So I’m staying long gold for now, with half my gains from my £2/pt long from $729 protected with a stop at $798, and I added to my position this morning by buying another £1 at $817, with a stop set at 798. This is because I’m anticipating a bit more downward slippage for the dollar, particularly against the yen and the euro, and because I think commodity prices in general are showing signs of firming up over the next few months.

Don’t believe the eurohype

I missed out on most of the currency moves; I was away from the screen for most of Friday and Monday, and so didn’t find a good point to get in. There were some great trading opportunities on offer in EUR/JPY and EUR/USD, but I just wasn’t there at a moment I felt confident to put the trade on. Despite the monster gains in the indices since last week, the dollar is continuing to weaken against the yen. My GBP/USD short was stopped out for a £500 gain at 1.53, and my EUR/GBP short is finished too – stopped out for around £50 of profit. But, looking ahead, I’m still inclined be bearish on the euro, even against sterling – bits of the eurozone are in such poor economic shape that even if France, Finland and bits of northern Europe only get ‘mild’ recession, other places – particularly eastern and southern Europe will have a seriously dragging effect. Unemployment, plummeting property prices and very weak demand will leave all currencies battered, but it’s hard to see how European Central Bank will be able to manage the very different needs of its constituent countries. These tensions are going to cause some structural problems for the eurozone, which might not be able to shake off recession as fast as the UK and the US. So I’m looking for an entry point to go short EUR/GBP again.

Is the dollar’s run done?

Does all this mean the dollar will weaken substantially? I’m not so sure. If credit wasn’t so tight, then we’d see huge capital flows into the economy, and soaraway inflation. But perhaps the money being printed is offsetting the money that has been blown up in the process of deleveraging. Trillions of dollars have drained away as share prices have collapsed, banks have written off assets and complex derivative bets have gone horribly wrong. There’s also the effect of ‘dollar repatriation’ where investors sell off risky assets overseas and stick their money back under the mattress at home. A lot of funds have been selling hard, because everyone wants their money back, partly to avoid defaulting on their debts. Everyone, Flash Rabbit included, is conserving as much cash as they can.

And a bit of inflation, in a period where demand is weak, could be a good thing. Inflation means that the value of debts go down quicker over time, relative to wider price rises; in times of inflation, basically debts ‘deflate’. Plus lower interest rates will work through. It’s going to get cheaper to borrow money, if you can find someone who’s willing to lend you some. Across the developed world, fiscal stimulus is temporarily putting a bit more cash in people’s pockets – much needed cash. As interest rates fall, households and businesses will find their debts easier to pay, with more disposable income trickling back into the economy.

Beware the ominous rabbit ears

But – just take a look at the long term chart on the S&P 500, which looks suspiciously like a classic ‘double top’ or pair of rabbit ears. We are back at the 800 levels of 2003 and 1997. Doesn’t look like it’s headed back up to 1500, does it? The best we can hope for is a sideways move or some sort of slow ‘slope of hope’. There’s some resistance at the 750 – 800 level but if we drop below this then we are a looking at 500, or much, much worse.



And yet – a lot of equities are still trading cheaply, even in relation to reduced future earnings. And governments are pumping out the policies and cranking the printing presses like there’s no tomorrow (because perhaps there isn’t).

By the end of January we could well see another 2000 point move on the Dow – and I’m not confident to say in which direction it’s likely to be. Remember the Dow was trading well above 10000 eight weeks ago! And it’s precisely the existence that ‘wall of worry’, that uncertainty and anxiety, that makes me think that this is a good opportunity to be cautiously bullish. If you can withstand the inevitable volatility, my view is that for a good number of large cap equities, the risk/reward ratio is to be found more to the upside than the downside, at least for the next couple of months.