Stock market trend: Possible market top OR Emergent Sideways Pattern
Market Pulse
You know the stock market is in trouble when the only explanation for stock price movements is the direction of the dollar. Market goes up -- must be the dollar going down. Market goes down like last week -- must be the dollar firming up. Never mind how corporate earnings are doing. Never mind whether or not the global economy is recovering. Never mind anything. It's all about the direction of the dollar. What I find positively stupid about all this is that the logic doesn't work. Suppose you are a foreign investor holding euros or yen or Australian dollars. If you think that the US dollar is going to decline over time because of rising budget deficits and an ultra-easy money policy of the US Federal Reserve, there is no way that you are going to buy dollar denominated assets in the US stock markets. That's just plain stupid. Suppose, alternatively, that you are a US citizen holding dollars and seek to earn a reasonable return on some type of investment. Given a choice between holding the US market in the form of an exchange traded fund like SPY or buying exchange traded funds of the countries or regions that are likely to see currency appreciation against the dollar, there is similarly no way that you're going to choose investing in the US market. Well, then, how about all this carry trade stuff? Shouldn't that cause US stock markets to rise? By definition, absolutely not. The whole idea of the carry trade is to borrow US dollars and invest them in higher yielding assets abroad -- not the US stock market itself. At least from my perspective, all this adds up to a really bad case of spurious correlation. Yes, the dollar has declined by almost 20% since March of 2009 while the stock market has gone up. But no, the dollar's decline can't be the cause of this. This as an important implication: The observed co-movement of the dollar and US stock prices is likely unsustainable. To repeat, why the hell would anybody in their right mind invest in the US stock market -- that is, dollar denominated assets -- if they think the dollar is going to continue to go down. It makes absolutely no sense. On this matter, I would love to hear from any of my readers -- or, for that matter, any of my fellow co-contributors on CNBC . Specifically, I would like to hear a cogent argument as to why the stock market in the United States should go up when the dollar declines. And spare me the "law of one price" argument which would argue that all the stock market is doing is adjusting upwards in nominal value to account for the decline in the dollar. This simply doesn't wash because rational actors out in the world would prefer to chase higher returns elsewhere rather than simply tread nominal value water with the US market. Anyway, that's my beef for the week. I'm tired of hearing all this dollar nonsense without any logical explanation of the alleged effect other than a few buzzwords about "carry trade." If the carry trade were truly lifting the US stock market, the Japanese stock market, which benefited from the carry trade for almost a decade, would be at 100,000 right now. To close, a few observations on the market trend. Loyal readers know that I called a market top some weeks ago and have thus far have been either dead wrong or just a little ahead of the curve. The truth may be somewhere in the middle as there is emerging evidence of a possible range bound market and a resumption of a sideways pattern, with the top of the range only slightly extended now. This is a situation that we must watch very closely now. I continue to be mostly in cash -- although last week I dipped in and out of the market with a nice nibble on TWM -- the exchange traded fund that ultra-shorts the Russell 2000. These are the kind of short-term trades that at least keep me on my toes and attentive to the market trend. Last take : the Chinese government needs to shut its pie hole on the currency question. Over the last week, as the supplicant Barack Obama embarrassed himself in Beijing, Chinese government officials repeatedly attacked the US for its large budget deficits while denying that it's currency manipulation had anything to do at all with weakness in the US economy or the ability of the US to run those budget deficits. This is just so much Chinese garbage, and it would be refreshing if the Obama administration had the same kind of "ready response" to these criticisms that it had whenever Hillary Clinton attacked Obama during his campaign. It's the first rule of politics -- you don't let a false charge go unanswered. Yet Obama and his clueless lieutenants keep allowing the Chinese to have the upper hand in this trade reform debate when the Chinese government has the blood of the American economy all over its hands.
November 18, 2009 THE FED IS FOOLISHLY WEAKENING THE DOLLAR By Peter Navarro
Has America's Federal Reserve become the single greatest obstacle to global economic recovery? Central bankers around the world are increasingly asking this question as the American greenback continues its Fed-inspired decline and damages the export-driven growth of countries from Latin America and Asia to Europe.
Historically, the Fed has responded to economic downturns by cutting interest rates to stimulate domestic business investment and consumer purchases of "big-ticket" items, like automobiles and housing, that are sensitive to the cost of loans. However, in the current crisis, this traditional formula is simply not working.
It's not working in part because the Fed's "solution" has been a concentrated dose of the problem. After years of promoting the easy money and loose credit that fueled asset bubbles, it has responded with even easier money and even looser credit. It's like fighting fire with gasoline.
American consumers are not responding to the Fed's liquidity surge because high employment, high oil prices, bottoming home prices, and stagnant wage growth have squeezed their purchasing power. Business investment has likewise failed to fill the recessionary gap because much of the investment US corporations used to make on American soil is increasingly being sent off shore.
Despite this lack of responsiveness, Fed Chairman Ben Bernanke continues to throw monetary stimulus at the problem – and thereby has created an international dollar crisis now threatening the global recovery.
The declining dollar story is one of weakening demand for, and a massive oversupply of, the greenback. It is a sad and sordid tale scripted almost entirely by the Fed.
During the worst months of the global financial crisis, investors flocked to the dollar as a haven amid the storm. But since March 2009, when economic policy under the Bernanke Fed and the Obama administration became clearer, they have fled the greenback. In that time, the dollar index has fallen 16 percent.
You can't blame investors for selling. By first driving, and then maintaining, short-term interest rates near zero, the Bernanke Fed has made it far less attractive for them to hold dollars.
In a desperate effort to break the back of the credit crisis, the Fed has also engineered the most massive increase in the money supply in US history. Since 2007, the Fed has roughly doubled the monetary base. This, however, is only half of the oversupply story.
The other half of the tale involves the willingness of the Bernanke Fed to help accommodate the rapidly rising, and historically unprecedented, US budget deficits. Such accommodation involves the Fed's willingness to print new money to purchase many of the government bonds being issued by the Treasury Department to finance the budget deficit.
The practical effect of the Fed's easy money policies has not been to stimulate the US economy through traditional channels of domestic consumption and business investment. Rather, it has debased the dollar and thereby, in true beggar-thy-neighbor fashion, helped to stimulate demand for US exports while discouraging imports from the rest of the world. To the rest of the world, this policy seems cynically aimed at bootstrapping the American economy through exports at the expense of its trading partners.
This beggar-thy-neighbor effect is further complicated by the Chinese government's pegging of its currency to the falling greenback. Because of this peg, every time the dollar falls, the Chinese yuan falls with it. The steadily weakening yuan has further boosted the already formidable competitive advantage of Chinese manufacturers in markets across the globe.
In response to sluggish export demand in their home countries and the loss of market share to China, central bankers around the world are beginning to retaliate with large-scale interventions in the currency markets designed to brake the dollar's decline relative to their own currencies. The clear danger is that this tactical retaliation will devolve into a longer term strategy of competitive devaluations that will ultimately pit nation against nation and destabilize the already fragile international monetary system.
Washington officially supports a strong dollar. But its policies suggest otherwise. To avoid this destructive cycle, it is critical that the Fed and the Obama administration find the courage to end easy money and the accommodation of ever-larger budget deficits. This certainly won't be easy, but the road to global economic recovery must ultimately be paved with both fiscal and monetary discipline in the US – not with Great Depression-style competitive devaluations.
Peter Navarro is a business professor at the University of California-Irvine, a CNBC contributor, and the author of "Always a Winner: Finding a Competitive Advantage in an Up and Down Economy."
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