Credibility Crisis

"All credibility, "All credibility, all good conscience, all evidence of truth come only from the senses."  -Friedrich Nietzsche

The credibility of the US Financial System and those who think they are leading it continue to weigh on my mind. This is not a Geithner Saturday Night Live skit or an Obama Washington DC media cocktail party we are watching folks. We are playing with live ammo here.

In a perverse way, the Breaking of The Buck will continue to auger bullishly for our intermediate-term investment in REFLATION. In the long run however, America's long standing stature as the world's currency reserve will be dead.

Bad habits die hard for a reason. If a part of the whole that is trying to exist in a dynamic ecosystem (like, say, the global economy) doesn't have the flexibility or objectivity to evolve, it's likely to go away. Take Darwin's thesis on that - God knows you shouldn't take a hockey player from Thunder Bay, Ontario's word for it.

But what is a man's word worth in the world of finance these days? Does America's handshake with The Client (China) matter anymore? What are the repercussions for the people we have leading this US Financial system down the road to hell in a hand-basket?  Do you really think these people have what Nietzsche referred to as credible "senses"?

These questions are best served to be considered within the framework of a book - heck, maybe I'll take some time off and write one - then CNBC will have to quote me. Maybe I won't! Someone has to wake up every morning calling these cats onto the carpet, or my son Jack is going to be living in a country that's as compromised and conflicted as we allow it to get.

This morning, the Banker of America, Kenny Lewis, is compromising whatever inch of respect that his handshake had left with The Client. Remember, The Client, is what we at Research Edge call China (yes, you little trickster of a strategist who likes to call our coined phrases your own, have at it!). The cost of Kenny's handshake was $7.3 billion in liquidity via his sale of China Construction Bank.

While I am sure that BAC's conflicted US centric Board is completely ignorant of The New Reality, at least we can remind someone over there who is allowed to be objective (when no one is looking ) that selling stock in The Client's face isn't cool.

On this score of compromising America's credibility with the Chinese, what is very interesting this morning is the contrasting headlines between the Top 2 stories being read on Bloomberg:

1.      "Most Stocks, Index Futures, Copper Rise on China's Spending"

2.      "Bank of America Said to Raise $7.3B From China Construction Sale"

Who really "gets" this? President Obama? Do you get it?

By the self-enhancing nature of his perceived to be self deprecating speech this weekend, Obama certainly fancies himself as a smart man. I actually think he is smart, but I also think his economic team wears world class blinders when it comes to understanding the interconnectedness of global markets.  Rather than reading his latest fiction novel, why doesn't someone pass the Oracle of Obama some of the required reading that's being issued real-time and being reflected in marked-to-market prices?

Larry Summers' lap dog, Christina Romer, gets YouTubed daily with her professorial take on macro economic factors. One of her favorite lines in supporting her economic views is "we're in line with blue chip private market forecasters." Unfortunately, I am not kidding you on that either. It's embarrassing and sad all at the same time. Professors teach impractical theories about markets for a reason.

What in God's good name is a "Blue Chip" Wall Street forecast anyway? Are these the forecast of Kenny Lewis' compromised and conflicted "economists" at Investment Banking Inc.? Or are these the "forecasters" from the not so much Government State Enterprise banks, like say Goldman Sachs? Wait - are the Goldman guys private forecasters to Geithner?

So many questions. So little time...

The credibility issue here remains folks. As bullish as I am on a continued generational short squeeze, let me be clear in stating that this remains an immediate to intermediate term view. Dollar down = REFLATION. That's pretty much it, but in the long run... unless we take a good hard long look in the mirror and understand that the only way that our markets will recover from here is if Chinese demand continues to recover... it will not end well.

On weakness, I bought back our long position in China (via the CAF closed end fund) yesterday. The Chinese are reporting that the growth they are seeing in urban fixed investment is now running up +31% on a year-over-year basis. On the heels of fantastic auto sales for April yesterday, the Chinese macro data continues to impress. All the while the lack of American credibility continues to depress. The US Dollar is down again here in early morning trading. US Futures like that. As they should, for now...

Enjoy the REFLATION trade while it lasts. I have the reward outrunning the risk here in the US market for the first time in a week. I have upside reward of +3% to the SP500 line of 938.

Best of luck out there today,

KM


LONG ETFS

CAF - Morgan Stanley China Fund- A close end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the wave of returning confidence among domestic Chinese investors fed by the stimulus package. To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth.


EWD - iShares Sweden-We bought Sweden on 5/11 with the etf down on the day and as a hedge against our Swiss short position. Sweden is up a healthy 18.7% YTD and has bullish fundamentals. The country issued a large stimulus package to combat its economic downturn and the central bank has effectively used interest rate cuts to manage its economy. Sweden's sovereign debt holds a strong AAA rating despite Swedish banks being primary lenders to the Baltic states. We expect Sweden to benefit from export demand as global economies heat up.

XLK - SPDR Technology - Technology looks positive on a TRADE and TREND basis. Fundamentally, the sector has shown signs of stabilization over the last eight weeks.   As the world demand environment becomes more predictable, M&A should pick up given cash rich balance sheets in this sector (and the game changing ORCL-JAVA deal). The other big potential catalyst is that Technology benefits from various stimulus packages throughout the globe - from China to USA. Technology will benefit from direct and indirect investments.


XLV - SPDR Healthcare-Healthcare looks positive from a TRADE and TREND duration. We've been on the sidelines for the last few months, but bought XLV on a down day on 5/11 to get long the safety trade.

VXX - iPath VIX- The VIX is inversely correlated to the performance of US stock markets. For a TRADE we bought some of the Street's emotion on 5/4, getting long their fear of being squeezed.

TIP - iShares TIPS- The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%.  We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

GLD - SPDR Gold-We bought more gold on 5/5. The inflation protection is what we're long here looking ahead 6-9 months. In the intermediate term, we like the safety trade too.
 

SHORT ETFS
 
EWJ - iShares Japan -We re-shorted the Japanese equity market via EWJ on 5/6. This is a tactical short; we expect the market there to pull back when reality sinks in over the coming weeks. Japan has experienced major GDP contraction-the government cut its forecast for the fiscal year to decline 3.3%, and we see no catalyst for growth to return this year. We believe the BOJ's program to provide $10 Billion in loans to repair banks' capital ratios and a plan to combat rising yields by buying treasuries are at best a "band aid".
 
EWW - iShares Mexico- We're short Mexico due in part to the media's manic Swine flu fear. The etf was up 7% on 5/4, giving us a great entry point.  The country's dependence on export revenues is decidedly bearish due to volatility of crude prices and when considering that the country's main oil producer, PEMEX, has substantial debt to pay down and its production capacity has declined since 2004. Additionally, the potential geo-political risks associated with the burgeoning power of regional drug lords signals that the country's economy is under serious duress.

DIA  - Diamonds Trust- We shorted the Dow on 5/4 for a TRADE. Everything has a time and price.

IFN -The India Fund-We have had a consistently negative bias on Indian equities since we launched the firm early last year. We believe the growth story of "Chindia" is dead. We contest that the Indian population, grappling with rampant poverty, a class divide, and poor health and education services, will not be able to sustain internal consumption levels sufficient to meet targeted growth level. Other negative trends we've followed include: the reversal of foreign investment, the decrease in equity issuance, and a massive national deficit.
 

LQD  - iShares Corporate Bonds- Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates in the back half of 2009 that bonds will give some of that move back. Moody's estimates US corporate bond default rates to climb to 15.1% in 2009, up from a previous 2009 estimate of 10.4%.

EWL - iShares Switzerland - We believe the country offers a good opportunity to get in on the short side of Western Europe, and in particular European financials.  Switzerland has nearly run out of room to cut its interest rate and due to the country's reliance on the financial sector is in a favorable trading range. Increasingly Swiss banks are being forced by governments to reveal their customers, thereby reducing the incentive of Switzerland as a tax-free haven.