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“Markets are constantly in a state of uncertainty and flux and money is made by discounting the obvious and betting on the unexpected.”

 -George Soros

Price momentum is a powerful force and our decision to be short the S&P 500 stands in defiance of current price momentum and the trends in the fundamentals.  As we said yesterday, fear has been replaced by hope, and the arguments for being bullish are now worn-out and vulnerable to a deceleration in the momentum.

With the S&P trading at 1189, up 75% from the March 2009 lows, is market price momentum discounting the obvious that the economy has “recovered”?  Today, betting on the unexpected reflects a seemingly more conservative outlook that the economy is not yet out of the woods as there are some trends that can’t be maintained or policy makers will have serious issues to deal with.     

Take for example the recent ISM numbers.  The recent push higher in the S&P 500 was helped by the ISM index, which rose 3.1 points last month to 59.6. The March reading was just 1.8 points less than its previous high, reached in May 2004, and 1.5 points above a high in November 1999.  Are things so white hot that we will continue to see an acceleration in April?

How about the price of oil?!  Yesterday, oil prices bid up to an 18-month high and this is a positive for the REFLATION trade because global demand for oil will strengthen as the economy improves.  Wasn’t it in 2008 that oil was on its way to $140, forcing consumers to cut back on driving and eating out because it cost more to fill up their tanks?  Aren’t higher oil prices inflationary and a tax on the economy, rather than a stimulant?

I guess none of this matters because employment in March grew by the most in three years, representing a turning point for the labor market that will help broaden the U.S. economy. 

None of this matters to Ben S. Bernanke & Co. because he is still looking for “evidence of a sustained rebound” and his staffers reduced their 2010 and 2011 inflation forecasts excluding food and energy!  I know I need to skip a meal now and then, but I still need to drive to work.

With those thoughts in mind and knowing that the S&P is at 1189, up 6.7% year-to-date and up 46% over the past 12 months:

  • Fear has been replaced by hope.
  • In the upcoming earnings season, EPS surprises are now the “norm” and “expected” and no longer a “surprise.”
  • The Financials are in a bullish formation because the government can’t afford to raise rates.
  • The rally is now about accelerating momentum in the economy.
  • Copper and oil prices are up 88% and 37% year-over-year, respectively, and there is no inflation according to FED officials.

We are also reminded today that the poster child for everything leveraged, Greece, is down 1.4% on the news that it will revise its 2009 budget deficit to around 12.9% of GDP from 12.7%.  But don’t worry, even with the downward revision, Greece will achieve its target to cut the deficit to 8.7% this year and there is no need for additional budget cutting measures.   

The hard part to understand is what represents the unexpected.  As I sit here this morning, it seems that the unexpected will be driven by the fact that policy makers in Washington can’t see (or don’t want to see) what the consumer feels.

Function in Disaster; Finish in style

Howard Penney

Managing Director

Momentum and Hope - HE Inflation Index EL