Since early March 2011, the market has seen an increase in volatility as investors grew more aware that the economy was not recovering as Wall Street pundits and the Ministry of Truth suggested. As a result, the average true range of the VIX, S&P 500 and NASDAQ began to increase as shown below.
At the beginning of March, the issue of increasing the nation's federal debt ceiling began to be discussed in the newspapers and among members of Congress.
About the middle of the March 2011, the markets began to advance and the average true range of the three indices fell back to "normal" levels. On May 3, 2011, Secretary Geithner announced that August 2nd was the day when a default would occur unless the debt ceiling was increased. As the rhetoric over the debt ceiling began to increase in May 2011 and Treasury Secretary Geithner resorted to borrowing from various federal pension programs to keep the federal debt ceiling from being breached, the average true range began to slowly increase.
On July 1st, Secretary Geithner was again quoted as stating that August 2nd was the day when default would occur if the debt ceiling was not increased.
However, after Federal Reserve Chairman Bernanke said on July 13th that the Fed would do "whatever was necessary" note that the average true range began to rise markedly.
On Tuesday, August 2, 2011, President Obama signed the bill authorizing an increase in the debt ceiling and almost immediately, most markets throughout the world began to drop while the average true range rose markedly.
After the close on Wednesday, August 3, 2011, the U.S. Treasury noted that the federal debt had increased by $238 billion. The increase in the debt ceiling was limited until the recommendations of the super-committee to only $474 billion. In effect, the U.S. Treasury had committed over 50% of the increase in one day! At that burn rate, the debt ceiling would again be in jeopardy by September 30th.
Then during the morning on Friday, August 5, rumors began circulating that the AAA rating of the U.S. Treasury instruments might be downgraded. After the close, Standard & Poor's did downgrade the U.S. to AA+.
The sequence of events beginning in March and culminating with the debt downgrade probably began a sea-change of perception on the part of investors, both professional and otherwise. The market had been buoyed by hope that the economy was improving, or was going to improve based upon data from the Ministry of Truth that almost always was revised downward in every instance.
With the battle over the debt limit and Treasury downgrade concluded, investors were faced with the reality that the recovery was weak and failing. Many individual investors were just losing interest in the markets and withdrawing from participation in both the equity and bond markets according to many financial advisors.
The first half of 2011 could be characterized as a "market of hope". However, reality has now set in and investors have become wary of the Ministry of Truth datasets and the various schemes from both politicians and central bankers. As a result, you have seen a major increase in average true ranges as the battle was waged between the forces of "hope" versus those of "reality".
As the following chart of the IBD "A" rated stocks shows, institutions are not finding it easy to add quality stocks to their holdings as the economy continues to struggle.
Data source: Investor’s Business Daily. Used with permission.
Moreover, if we look at the "E" rated stocks, we find that the highest number in history occurred on August 8, 2011 as shown in the following chart.
Data source: Investor’s Business Daily. Used with permission.
As the economy struggles, we are seeing a increasing number of decreasing profit forecasts for companies as shown in the following chart.
Corporation cash reserves are increasing and politicians want them to be used to add jobs. Of course, a significant portion of those cash reserves and corporate profits are earned overseas and not in the U.S.
The Bureau of Economic Analysis (BEA) reported that corporate profits in the 2nd quarter of 2011 grew to $1.1467 trillion on an annualized basis. Downward revisions to the 4th quarter 2010 data pushed the growth to a 3.3% increase. Profits are after tax but without inventory valuation and capital consumption adjustments. However, on a y/y basis, corporate profits were basically flat. What is missing from the data is how much of the after-tax profits are made in the U.S. as opposed to off-shore and how much is due to currency fluctuations.
The U.S. tax on corporate profits is among the highest in the world, hence, it is no surprise that corporations do not repatriate those profits back home. In fact, many multi-national corporations have moved their corporate domicile off-shore to reduce the U.S. tax consequences.
Uncertainty over regulation and taxes continues to hamstring the economy as well as high unemployment and a financial system where toxic assets remain hidden on many balance sheets. Since the Bear Stearns trigger and Lehman's bankruptcy, the "too big to fail" mentality has only pushed the ultimate collapse down the road and made its conclusion much worse as sovereign nations are now facing bankruptcy.
Federal Reserve Chairman Bernanke ducked at the Jackson Hole meeting and basically deferred to the next FOMC meeting before any substantial action might be announced regarding changes in the Fed's policies.
After all the stimulus injected into the economy during the past four years, the country's GDP in the second quarter according to the official figures grew at only 0.99% on an annualized basis. Of course, when the next set of benchmark revisions to the GDP dataset is published don't get excited when it shows further deterioration. The following graph from John Williams of Shadow Government Statistics shows the increasing gap between the originally reported data and the revised benchmark data since 2006. It is obvious that the Ministry of Truth is hyping reality.
Data source: shadowstats.com
It absolutely boggles my mind that Keynesian economists fail to understand that in a deleveraging environment the solution is not to add more debt in the form of stimulus spending after watching the results of the previous stimulus programs.
With an economy that is limping along at best, the Obama administration continues to issue regulations and edicts that further constrain entrepreneurial developments rather than trying to encourage business and entrepreneurs to take risks. But what can you expect from bureaucrats and lawyers who populate the government policy offices.
The world economy is slipping back towards recession. The Eurozone continues to struggle with the problem of the PIIGS and their economic travails. China is also facing renewed efforts to restrain the growth of its economy and to stabilize its financial system that is awash with uncollectible loans primarily from government businesses. In Japan, after two decades, the toxic assets remain in the banking system and a new Japanese prime minister has just been named.
Are we at the "end game" as described by John Mauldin? If not, we are getting real close.
Fiat currencies have never survived and the current system is facing pressures from many sides. The role of the U.S. as the world's reserve currency continues under attack.
The plight of millions, if not billions, of people throughout the world are going to be affected by food shortages in the next year. It is possible hunger will increase the number of food riots throughout the world and one by-product could well be more governments being overthrown.
In the meantime, markets will move up and down. Moreover, interventions by governments in the market place will also increase as politicians remain committed to Keynesian economics and control. Rather than letting capitalism wring out the excesses, we have politicians and regulators who align themselves with socialistic markets rather than free markets.
It will take an economic collapse and political revolution to change the outcome. Will it happen? Not until the producers and savers decide that "enough is enough!"
We receive many emails from our Strategic Investing subscribers asking for more of our reasoning about various of our investment strategies. The following email was received as we added considerably to the Precious Metals portfolio on August 31st.
"I see from your Market Musings that you just placed a quarter million dollar bet that gold mining stocks are going to go up. In your musings you also said if the price of gold makes it through tomorrow, it will explode next week. For a long time you had no position in precious metals, and now all of a sudden you jumped in with both feet. What is triggering your action?
Is there some news coming out next week? What do you know?
Two weeks ago several of the big publications (WSJ and Forbes) were predicting a correction in gold prices. It dropped about $100. Not a very big correction. Do you think the correction is over?
You are not investing in GLD or IAU ETFs. Is that because as you say in your gold analysis article, that they don't really own gold, just track the price? Or is there more to it?
Curiously,
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