Monday, December 27, 2010

Morning Update/ Market Thread 12/27

Good Morning,

I hope that everyone had a Merry Christmas, we have another low profile and low volume week going into the New Year this week. Prior to the open today, equities are lower, the dollar is slightly lower, bonds are roughly flat, oil is lower, and gold is higher.

It’s another very light week for economic data, none today, Consumer Confidence and Case-Schiller Home Prices tomorrow, then Pending Home Sales and Chicago PMI on Thursday to go along with the usual weekly reports.

The big news this weekend is that China raised interest rates by a quarter percent for the second time in the past two months in an attempt to cool off rising inflation.

The problem with raising interest rates in this environment is that the rest of the world is not ready to. I say it’s a problem because raising rates will simply attract more hot money into their country from overseas. This will prompt the need for them to enact more controls on capital entering their country, and those controls are difficult to maintain. As they raise interest rates and as we create hot money from nothing, the people who obtain the hot money are very likely to chase the higher returns that China offers and thus a HUGE carry trade is created.

We can’t raise our rates to match them because we are saturated with debt. Heck, I’m reading articles wherein people predict that our “Fed” will raise rates in 2012. Oh really? For that to happen, we must first stop QE… does anyone really see that coming to an end? Last I checked the numbers are still getting bigger, not smaller. So, we continue to print money and a big percentage of it simply goes overseas. Thus a cycle of inflation pressure is put on China and the difference between here and there grows larger as the interest rate differential grows.

If you look at historical periods of rising interest rates, you will find rising stocks during those periods. What’s interesting about this period of time is that it is the Chinese who are leading with rate hikes while we POMO our markets to death. The transition from money printing to higher interest rates for us may not be by choice, and thus the usual higher interest rate correlation will not be the same.

Looking at a 30 minute chart of the DOW, there is a clear rising wedge in play. This wedge is within a larger rising wedge:

Everywhere I look I still see negative divergences. We’re still in wave 5, but the holiday season is now growing short.