Spirit Of Defiance

This note was originally published at 8am this morning, October 25, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“There is no week nor day nor hour when tyranny may not enter upon this country, if the people lose their roughness and spirit of defiance.” 

-Walt Whitman

 

The world’s short-term US Dollar Debauchery trade is back in motion this morning: dollar DOWN = commodities and stocks UP. As the Buck Burns, Bloomberg’s #1 headline reads “G-20 To Avoid Competitive Devaluation.” Never mind the hypocrisy of it all - America’s currency is the only one being devalued. Provided that we don’t get suckered into buying stocks today, these will be looked back on as fascinating days in the Fiat Republic.

 

The good news is that, in addition to Americans pushing back against Washington’s economic policies, there is a Spirit of Defiance that’s building globally against Quantitative Guessing. Here’s a taste of what the respectable likes of Germany and Canada are saying:

  1. “It’s the wrong way to prevent or solve problems by adding more liquidity. Excessive, permanent money creation in my opinion is an indirect manipulation of an exchange rate.” –Germany’s Economy Minister, Rainer Bruederle
  2. “I agree that there’s suggestion that aggressive quantitative easing in the United States would create devaluation pressure on the US currency.” – Canada’s Finance Minister, Jim Flaherty

Maybe not so surprisingly, while Canadian and German interest rates remain higher than America’s, both countries have lower structural unemployment levels and both of their respective stock markets are outperforming the SP500 for the YTD (Germany’s DAX +11.7% and Canada’s TSE +7.3%).

 

As both the Euro and Canadian Dollar strengthen, their citizenry is becoming wealthier. As both the German and Canadian populations age, the rate of return on their hard earned savings accounts isn’t being compromised for the sake of Banker of America’s earnings. As the world turns, both German and Canadian culture isn’t being held hostage by CNBC and US style Congressional commercials. Fancy that.

 

In the end, this won’t end well for America. Most of us who aren’t creating an economic strategy that conforms to the confirmation-bias in our year-end bonus package get that. “There is no week nor day nor hour” that we can pinpoint when this will all become crystal clear. But that time will come.

 

Last week was interesting in that the US Dollar Debauchery trade actually paused. However fleeting that moment was, it certainly gave the buy-and-hope crowd something to think about. Like a cold buddy shower, that was a healthy risk management exercise to observe.

 

The US Dollar closed up +0.55% on the week. That was the 1st week that Burning Buck was up in the last 6 and only the 4th week out of the last 21. All the while, both weekly US Consumer Confidence (ABC/Washington Post poll) and the MBA Mortgage Applications indices fell.

 

Americans having no confidence to lever themselves up with a “cheap mortgage” or chase the stock market higher (after a +13% rally since Bernanke introduced QE2 at Jackson Hole on August 27th) is not new news. What is news is what happens to asset prices when, God forbid, someone (China) attempts to give the US Dollar and the cost of capital some credibility.

 

Gold closed down -3.4% last week and was the standout loser in a relatively strong week for the US Dollar. That will, of course, all reverse this morning as the Buck Burns again, but it’s more interesting to note that almost everything else didn’t react as poorly as I would have thought in the face of US Dollar strength. Everything macro was actually quite flat.

 

On a week-over-week basis, here’s what was flat despite the US Dollar being up:

  1. Small Caps (Russell 2000)
  2. Euro
  3. CRB Commodities Index
  4. Oil
  5. Volatility (VIX)
  6. Yield Spread (10s minus 2s)

Given the extremely high inverse correlations between the US Dollar and everything else, the most obvious question here is why flat? Well, the week didn’t occur in a vacuum. It was very lumpy. The US Dollar picked up all of its strength in a 24 hour move after the Chinese raised interest rates on Tuesday (USD up +1.7% that day and the SP500 was down -1.6%). Otherwise, the US Dollar was flat to down for the remaining trading hours in the week.

 

The other obvious reason as to why, is the discounting mechanism that I think poses the greatest financial risk to your net wealth - the undeniable market expectation that the US Dollar will be compromised by Quantitative Guessing in t-minus a few weeks. This, Ben Bernanke, is the government sponsored risk that’s got the bulls in heat. God Speed with that by the way. In the Spirit of Defiance I’ll be a short seller of the SP500 from here until then.

 

My immediate term support and resistance levels for the SP500 are now 1165 and 1188, respectively. In the Hedgeye Virtual Portfolio, I’m currently short both the US Dollar (UUP) and the SP500 (SPY). The Cash position in the Hedgeye Asset Allocation Model is a healthy 61% (down from 67% last Monday). I’ll look forward to raising that Cash position today.

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Spirit Of Defiance - ww


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