A View of the Markets 11-25-2008

In this and the next 3 or so blogs, I’ll be writing an overview of how I view the trends in the markets till the first quarter.

I have a process of analysis that starts with an attempt to understand the contextual framework from a fundamental and technical stance. Fundamentally in economics, I adopt the Austrian School approach; I then combine this with Pete Steidlmayer’s admonition that fundamental events fall into one of three categories:

  1. Expected Events: Investors/traders accurately perceive the fundamentals. The result is a trading range.
  2. A Surprise Event:In a word, these are usually Acts of God. A bolt from the blue that does not change the fundamental landscape so that the market returns to previous levels once the effects wash away. Pete liked to say that ‘price led value. So, price would subsequently return to value’.
  3. An Unexpected Event: Investors/traders inaccurately perceive the fundamentals and value leads price. Eventually, price catches up to value.

As a trader, I seek to identify the type (3) events because they allow early entry. In so doing, the identification offers the best risk:reward.

Based on Murray Rothbard’s ideas in “America’s Great Depression“, I was able to identify the framework for the sub-prime crisis and hence was prepared for trading opportunities the market gave us in 2008. As a result, my private fund returned on capital to October 31 over 30% – this at a time when the average fund is down (20%).

And, based on Rothbard’s ideas we can take the analysis a step farther: the present policies of Obama’s Government in waiting will mire the US and as a result the world is in an inflationary lead deflation. Obama has made it clear he intends to attempt to spend his way out of the problem. The Financial Times quoted Tim Geithner (Treasury Secretary elect) as saying that inflation and deflation were like ‘ fire’ and ‘water’ – one would have to overcome the other.

My view – the attempt to spend out of this problem will meet with the same lack of success as John Law’s attempt to salvage his ‘System’. By the end of 1720, he brought about the economic collapse of France. A reading of this event shows that we have learnt little about economic theory despite the passing of 3 centuries.

So, what can we expect? At some point, the money that has been and will be injected by the US Government will filter into Main Street. We can see the pressures building up in adjusted monetary base (See Chart 1 – courtesy of ShadowStats). This explosion needs a minor slip to light it. In the October 26 update, John Williams had this to say:

The current surge in the base is a direct result of the ongoing, extraordinary actions taken by the Federal Reserve and the U.S. Treasury aimed at preventing a collapse of the U.S. financial system. The higher monetary base growth will result in sharp spikes to domestic money supply growth and will intensify inflationary pressures in the year ahead”.

So, we have an expected event in the making. The world is now focused on a recession/deflation scenario. What should happen if we see a stagflation situation and the FED is forced to raise rates? Tomorrow and the days after, we’ll look at the markets on a technical basis to see what the technicals have to add.

The Ludwig Von Mises Institute gives away free America’s Great Depression. Just click on the link America’s Great Depression to download.


CHART 1  Adjusted Monetary Base

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