Archive for July, 2010

Market – Economy Divergence

Much is finally being made of the divergence between the stock market and the economy. Yesterday, Mark Haynes of CNBC brought up this question….how is it that the market can be doing so well while the economy is supposedly doing so poorly? Obviously, he too is curious how and why this divergence is occurring. Mark is not alone, most analysts, commentators, economists, traders, and investors are at a loss to explain this divergence phenomenon. I for one, think I have the answer to the question that the others haven’t answered. It is not because I am necessarily smarter…it might just be that I do not believe that there is a divergence….I believe there is a decoupling!

The saying goes that the economy lags the market by six months or so inferring a connection between the two. The government has been using this “fact” to try to keep people optimistic about the economy. Big brother has been using the belief that the economy is reflected by the market…..good market, good economy. Studies show that the average Joe believes that if the market is recovering, then so is the economy albeit on a six month trailer.  The problem is that the market started to recover almost a year and a half ago! Yet even as the market recovered, the economy is no better than it was then and maybe a little bit worse.

Here is where the divergence lies…..the market has recovered largely on the shoulders of better than expected earnings but the economy is still stuck in the doldrums. It sure seems like the market is marching to the sounds of a different drum……maybe an Asian drum. The answer to Mark Haynes’s quagmire is that the market is following the economy….the Asian economy! There is no divergence; there is a decoupling from the US economy and a coupling to the Chinese economy. There is logical evidence of this.

Thanks to the rapid globalization of world economies, many of the larger corporations here in the US developed solid and strong lines of distribution in most countries around the world. Mind you, we are talking about the biggest of the big companies……Fortune 500 types…..the ones that are reporting all of these good earnings. These are the companies whose stocks have benefitted the most. They also just happen to be the ones that are most well represented in the major indexes. They are the ones that are the most heavily weighted in the indexes and therefore have the biggest effect on the market.

So, with all of that taken into account, it is no wonder why so many of us are so confused with how the market is doing so well considering how poorly the US economy is doing. The major market movers, the biggest companies with the heaviest weighted stocks have simply hitched their wagons to a different economy…….the Asian economy, specifically China. Now this may seem a little far-fetched to you but there is even more concrete evidence backing my theory. Just released information shows that for the first time in its history, the U.S. is NOT the biggest buyer and user of energy…..China now is!

So what does all this mean to U.S. investors? It means that we may never see our market match our economy so closely again as we have seen in the past. It means that there will always be good stocks to invest in even when our economy suffers. But it also means that our market will react more strongly than ever to economic conditions abroad especially in China. And, if China starts to hit the skids before we return to some semblance of what we were, the market will probably suffer greatly even if things here have not gotten any worse.

Many of you bears out there who have been waiting for our market to trade down to match our economy may be in for a long wait. Many of you who have been waiting for our economy to recover taking a clue from the market may find that our economy does not lag the market by six months as so many analysts and commentators on TV have stated. It has been decoupled so there is no lag and the market is not offering a glimmer of hope for our economic recovery starting soon let alone at all!

Maybe the reason so many people are battling the question of divergence with no real legitimate answer for them to point to is because this is a decoupling……..not a divergence!

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A New Type of Analysis?

There are basically two ways to locate potential trading/investing opportunities. They are technical and fundamental analysis. These two types of analysis have fallen short on many occasions recently almost exclusively on downside or bearish indications. Over the past year and change, during the bounce back from the DOW 6500 level, the market has routinely ignored bearish technical and fundamental indicators so that  traders are very reluctant to act on  these indicators. In my opinion, it is due to the constant manipulation by the federal government through the Plunge Protection Team or PPT (officially The President’s Working Group on Capital Markets).

I have been monitoring the activities of the PPT for a while now and I fully believe that I have become pretty comfortable and reasonably accurate in determining when and where the PPT will act. This is due to the fact that its pattern of behavior has been repeated enough to be used as an indicator. Just take a look at the past week or so in the market particularly the DOW.

Notice how many times the market has made major runs in the last 30 minutes either taking it from negative to closing positive or erasing some type of technical breakdown. Last Friday was one of a very few exceptions; selling off and going negative in the closing second. However, that was only after the market ran up from down 50 or so to turning briefly positive after 3:30pm. This has happened so many times since March of 2009 it is way beyond any reasonable percentage chance.

The frequency of occurrences of and the predictability of them can create trading signals in the same manner that technical and fundamental analysis does. But, this is not really technical analysis and it is not really fundamental analysis…..it is Influential Analysis! Now before you start thinking that this is a ridiculous thought, you need to go back in history and think about it. Think back to the time of the SOES bandits. All they did was to locate and then front run the biggest influential brokers in the stock, normally Goldman Sachs and Morgan Stanley.  More recently, my good friend Jon Najarian and his Heat Seeker have uncovered front-runners ahead of an unannounced M&A deal!

My observation in this article is much the same as the SOES bandits and the Najarians, identifying, locating, and analyzing an influential player in the market. Then, reading the data they leave behind, you can figure out what they are trying to do thus indicating to you what you should do. From there, you figure out which strategy will be the optimal strategy to employ to take advantage of the opportunity you have found using your newly discovered “Influential Analysis!”