Let's jump into it.
VOLATILITY, VOLATILITY, VOLATILITY
2011 was one of the nuttiest year for the broader markets that I can remember. The SPX traded in huge ranges and ended up only 2% for the year. There were many, many swings up and down of at least 5% and this kind of action makes any sane investor sea sick. As I mentioned many times in the 146 posts I did last year, 3% moves up and 3% moves down in consecutive days is not a sign of a healthy market, it is a sign that the market is absolutely sick.
CONFIDENCE COLLAPSE WILL BE COMPLETE
2012 will be a year where this type of manic action will continue, so I suspect that there will be great periods of euphoria and gut wrenching falls during the year. Unlike last year where I predicted that the US markets would be positive and increase 6%, I suspect that we'll see an unnerving drop from the closing levels of the SPX to 1144 or a loss of 9%. (everything in me wants to say a loss of only 5%, but this blog isn't for chickens). Does this mean that there are no gains to be had this year? NO WAY!!! In fact, I believe that we'll see a repeat of 2011 with the theme of Sell in May and Go Away being rewarded heavily in commodity and energy names. This further highlights that if the front half of the year has the potential of being pretty decent, it must mean that the later half of 2012 is going to be nasty for me to get to my -9% prediction. It is with this in mind that we must note that all Euro deception and troubles will be revealed after May, and this is how I reconcile the two ideas.
The odd thing about the market losses for 2012 will be that the performance will be disconnected from the improving US economy. What I am saying is that we will actually look back in January 2013 and say "wow, the economy isn't really that bad compared with last year, but what we'll actually see is that Europe is just that bad, and the fall of the Euro will spell a falling market for equity players.
WE JUST CAN'T AVOID IT, WE'RE STILL CURRENCY TRADERS
Even if you don't think you are a currency trader you are. In relative terms, the USD is so much better than the feeble Euro and we'll see a continuation of the recognition of this issue, therefore the USD will be higher despite a concerted effort in the first 5 months of the year to reverse this trend.
US MARKETS - IMPROVING CONDITIONS BUT WAIT....
1) JOBS - The jobs picture will continue to improve with the jobless rate dipping to the low 8% levels. This rebound in the joblessness level has more to do with employers simply hiring under qualified workers to fill specialized roles as this issue has been persistent for the last year or so. Employers biggest challenge has been to find skilled workers to fill open positions. In 2012, employers will just suck it up and attempt to train those new hires in the open spots.
Note that there is an extremely troubling problem in our labor environment where unemployment for the uneducated is amazingly high while the unemployment rate for college grads is extremely low. Despite the stories you hear, if you have a college degree and are willing to move, you should be able to find a job. This bifurcation of the jobs market feeds the class warfare sentiment and who can argue with it when looking at the issue through this lens? The trouble is that the uneducated have to WANT to actually work to get educated! Our nation has become one where many of our citizens don't even make an effort to grasp one of the best attributes that our country offers; the hope and reality of achieving the American dream and having the ability to work hard, risk, and achieve greatness. Unfortunately our least prepared and least equipped have traded hope and opportunity for the instant gratification of subsistence living and are pacified with social programs that placate many needs and are a facade of comfort. Why give maximum effort when the short run gains received from working hard are less than or only marginally better than doing nothing?
2) HOUSING - (CONVENTIONAL WISDOM DIES HARD AND ATTITUDES CHANGE)
I anticipate that the US housing markets will remain flat even in these depressed levels. Unfortunately we really have no idea what sales numbers can be trusted from NAR because they have fudged reported sales for so long. Despite this slight of hand and the conflict of interest, I think that we'll see a flat line amount of growth in sales as there is a significant paradigm shift occurring in the minds of the US home buyer. In the past owning a home was part of the American dream. Now, given the collapse of real estate markets and the lack of availability of credit (the demand that home buyers actually have 20% to put down) potential buyers are simply now believing that home ownership is quite as cool as they were led to believe. The myth that home ownership is a great investment is being debunked and this sham is finally getting some publicity. As this knowledge is now getting widespread acknowledgement, there will be a steady-state level of home ownership and little variation or boost to buy homes. Add to the mix the notion that Congress is still looking at a move to get rid of the mortgage interest tax deduction and you'd see a continued decline in home ownership.
As I mentioned above, we are all currency traders whether or not we know it.
While it is tough to believe that the USD has merit, it certainly has "relative merit" and therefore I see an even more impressive move higher in the USD currency basket. The continued revelation that the Euro is done in its current form plus the continued efforts of politicians and financial leaders to keep the "ponzi" intact will only serve to boost the USD to higher levels. I think a level of 84 is very easy to achieve on the DXY. (See the 5 year chart below). If USD goes higher, stocks go lower. (chart by www.marketwatch.com )
4) INTEREST RATES
Did I tell you that predicting interest rates is a fools errand? Ask Bill Gross, the king of bonds, if guessing where US Treasuries will go is easy! I am going to say that the last two directional calls of Mr. Gross have made him look like a complete dolt! Of all of my predictions last year, this is the one that I missed as I expected rates of 3.5% or more! Ha! Who is the idiot now? I guess I anticipated a decent year in the markets and assumed that we'd achieve that decentness by way of actual growth and a clearing of some tough issues. Unfortunately, I could not have known that we'd achieve the average returns on the Dow by doing what central banks always do, which is create really low interest rate environments that ultimately blow the real economy sky high and collapse financial markets! (Oddly, I think Bill Gross miscalculated the level of insanity that the Fed would go to to keep the scheme in place, even though he is one that is really close to these nut jobs).
So, where do we go from here? Lower. How about a bold call of 1.65% to 1.75% on the 10 Year. Despite a stronger dollar, we'll actually see yields lower as the flight to quality and away from the Euroland disaster will push 10 years to Japanese type levels. (chart by www.marketwatch.com )
Now we get to the fun stuff. I nailed the macro level calls on commodities this year which makes me feel very nice and warm inside for about 3 seconds. Unfortunately, that is about as wonderful as it gets as I am reminded that you have to trade the strategy to make money on it! Yes, I did trade these, and yes, I did make money, but I didn't make as much as I could have because I stayed longer in the trades than I had outlined in the 2011 outlook. Essentially, the call on all of these was to stay in till May and get out. If you did that and actually exited on May 1st, and never traded again (or dare say even went short) you rocked.
I will spare you the gloating about how I nailed the calls on oil and gas to almost perfect calls on the high and low, etc. I will however say that this year is even scarier than last in that we have a quickly escalating Iranian problem and the countries involved are removing all wiggle room for themselves. It looks like the US and Europe are on a collision course with the real nut job and no one wants to back down, in fact, it could actually be in their best interests to pick a fight! Without further ambling about things I will obviously write much more on.
I think intra-year, oil and gas ARE the big winners this year, even though they will fall after mid year, other than that, the big winners at the end of the year will be the ag-type commodities like sugar, corn, and wheat. The play here is that central banks must fight for their lives by providing stimulus in the face of the deflationary forces of the Eurozone collapse, while they won't be successful in saving that which cannot be saved, they will resume the process that helped tear down many of the Middle East regimes by way of out of control food inflation. Buy your freeze-dried stuff now, cause it is going to cost more by the end of the year!
5) OIL AND GAS -
This year the theme to buy now and sell in May is again right on. There is mounting evidence that the US economy is resilient and not collapsing, there is the Fed giving oil and gas an inflationary wind at its back, and finally, Iranian President Mahmoud Ahmadinejad is pushing all of his chips onto the table to buy enough time to go live with several nuclear warheads. If he can weaponize just one device, he suddenly has tremendous leverage over his neighbors and the USA in the region. With the brinkmanship at record levels, oil and gas will not sit idly by, they will lurch higher with $110 within easy reach by mid February.
The seasonal play also works well for the plays I made last year and in fact, I am already involved with several of them. I think WNR and VLO will be winners in the first half of the year and a play in UGA also looks solid. Targets for these plays are $18, $27, and $54. I think all of them could easily exceed these levels, but I will stick with the "exit by May 1 strategy" this year even if it means missing out on other gains.
Oh yeah, the big oil names and service companies are awesome too, especially if they pay a dividend. Portfolio Managers are still in the game of security selection where one would pass on bonds and buy dividend paying equity stocks instead because corporate bond yields are so low. This benefits almost all large firms and energy firms that are dividend players seem to be a solid approach to capture upside and income.
6) AG STUFF -
Yes, I said it again, corn, wheat, soybeans, sugar and anything that can be consumed will move much higher. A safe play is to time the exit in May as well, but I think that agricultural commodities will be the one uncorrelated asset this year that just kills it. The more intervention we see domestically by Uncle Ben and his round table of doves we will see more food disruption in the form of out of control prices fed into the system. Tunisia, Egypt, Libya, and Syria will all just be the tip of the iceberg as world citizens rise up to confront their leadership's ability to control prices of food as a result of the never-ending liquidity spigot originating in the USA. Names to watch here are CORN, JJG, SGG.
7) GOLD AND SILVER -
I am telling you what, I nailed this one too last year. While I undershot the move upside in gold and silver, the pricing action did just as expected and clearly the move isn't done. The crazy euphoria is now gone from the trades and that is awesome because I feel like both gold and silver can now be entered rather safely for longer term trades. It seems like central bank intervention has eased some fears related to the "buy gold, cause the Euro is going to collapse", but it will return and with a vengeance.
I hesitate to give price levels and targets here, but what the heck it's not like you are paying for this.
I think we will see a revisit to the $1,900 level in gold and probably beyond that given the circumstances that need to be in play for the shiny metal to return to its highs. (charts by www.kitco.com )
Silver, will probably NOT revisit its $50 highs, but will settle in at $44
I think either of those would be nice if you pulled the trigger and then made a hasty exit.
As I noted last year, I actually DID sell 1/2 of my silver position as it was blasting near its highs. I had experienced enough misery by giving away gains in my refiners and gas trades that I locked in profits on much of my silver holdings. I am looking to purchase a new replacement slug any day.
Copper too was one of the trades that made me look really good in my predictions from last year. I suggested that copper was going to be a big loser, and it was almost from the start. There is a chance that copper goes higher this year for several reasons despite the fall of the Eurozone. First, there is some hope of a recovery in the emerging markets. Any improvement there will be a benefit to copper. Second, copper got shelled last year and as a result, is a relative better play. Despite the chances for a rebound, I won't be buying JJC anytime soon, however a play in FCX might be good for the same May 1 sell time frame since a move higher will absolutely benefit FCX as a miner of gold and copper. I think this is the best way to play this angle, AND you get a dividend too. $44.00 is probably a very conservative target (only a 10% move from today's levels, with $55 as a realistic area to expect).
I just have to say it, I hate them. They are hard to understand and chock full of liabilities and counter-party risks that are not truly known. This statement unfortunately goes for banks, insurance companies, and brokerage firms (are there any left?). There might be gains out there, buy if we can get them from other areas should we really try here?
9) BANKS - I missed it on banks last year. I expected that things would improve and they would perform much better, they didn't. Oddly enough, I think that bank performance could rebound in 2012 IF yields begin to rise. The margin compression they are suffering as a result of Operation Twist and other FED intervention has been costly and we should see some abatement in this as the program nears its end in 2013. I think BAC is still a big fat loser and suggest running away from it as some type of Country-Wide or Mortgage Fraud stuff is going to have an impact on them.
It isn't lost on me that Kyle Bass invested a slug of $200MM into Mortgage Guaranty Insurance Corp which is probably more a statement of his feeling that housing is at least bottoming domestically, but it also might be a signal to watch that stock (yes, it is already up 50%, I know and since he bought at $2.50 a share he is also doing quite well).
In this short to medium term for the year, the chart also suggests that GS could rally almost $15. If we see a $110 or $112 handle on GS and you are crazy enough to be long it, I suggest an exit.
FIXED INCOME -
The question is, does fixed income exist anymore? The answer clearly is no. Treasuries are a scam in that the US government through a scheme of the Treasury and the Fed are distorting the prices for bonds to achieve their own goals of suppressing borrowing costs. The private sector is buying US Government debt as a result of absolute fear, and so are other sovereign nations. There is no real market here, just a concoction of lies and more lies to cover the first lies up.
The average investor who is a retiree cannot live on the interest produced by any fixed income investment and so they are force to yield search and carry more risk than they normally would or simply abandon this asset class and reach for dividend paying equities. Unfortunately that strategy will back fire, we just don't know when. The Fed strikes again.
10) GOVERNMENT DEBT -
I've already highlighted this topic in the INTEREST RATE section. Bonds will go higher and yields lower as we near year-end. The safety trade to flee to US Treasuries will be firmly intact next Christmas. Downgrades of sovereign debt abroad will make the US yields even cheaper despite the fact that US spending is totally out of control.
TLT looks like it could spend some more time falling to at least the $113.50 area, but if my call for a move up in equities and then down again is correct, we could see an attack at $123 on the long side by year end. (That's not much you say??? They are treasuries I say, should they really trade in a 10% range?)
11) MUNI BONDS -
Meredith Whitney seems like the biggest loser when it comes to Muni Bonds in 2011. Meredith learned a hard lesson that a great call one time doesn't mean that you will make every call right. Further, the better lesson is that once you make an awesome call, DON'T PUSH YOUR LUCK and predict the apocalypse! Everything that Meredith Whitney said is true, the only problem is that she, like Bill Gross, misunderstood the commitment of the players in the system to keep the system afloat. Also, Ms. Whitney didn't state a realistic time frame for the collapse to hit. If the Euro crisis has shown us anything, it is that they implosions are slow and are delayed and delayed until they can't be delayed, and then suddenly the market and its willing participants simply wake up one day and reject the credit of entities and borrowers that just one day prior were perfectly fine. Perhaps if Goldman Sachs had made a prediction like that, things would have fallen apart faster, but it didn't.
If you take a moment to look at Muni yields you are first struck with how crazy one has to be to buy munis. First, it is very difficult to get financials for these municipalities that are timely. Second, it is impossible to get a decent yield, and finally if you attempt to stay shorter in your maturities you will get paid absolutely nothing for the risk you can't evaluate.
Perhaps the best way to approach Muni Bonds is to short them. Take a look at MUB which looks like it should at least revisit $107 or even $102.
12) CORPORATE BONDS -
I am going to copy word for word what I wrote last year in this space and I'll only change a word or two. Wait for commodity and market ramp. That move higher will continue to push corporate bond prices lower and finally put them in a pricing area where they again become interesting. Please note that I usually target buying corporate bonds that are less than 7 years in maturity. I do not subscribe to the hyper-inflation theories and therefore I do believe that a chance to buy solid company bonds yielding a 5%, 6%, or 7% rate will be great. What did I change? #1 - You may only get an opportunity to get into corporate bonds in February or March (last year that was the low). #2 - I reduced the target yields on bonds by a percent or two. Right now I would do just about anything for a 5% 4 year bond, you just can't find it, (without buying some stupid financial company bond) so when you do, you better buy it with the money that is allocated to a more conservative type investment.
As you look at LQD it seems ripe for a correction to $107 or even $104. The crazy shorters out there may look to take advantage of a drop in this etf, but the fear trade will drive buyers right back in to fixed income assets by year end.
Other than Bill Gross and Meredith Whitney the other big loser of the year was the emerging market trade. All of these markets were smashed as the shiny veneer was rubbed off the glorious BRIC trade. The trouble these countries ran into was one of a slow-down in growth, a wind down of credit bubbles, and finally importation of inflation served to them directly from their friends at the Fed. I've commented often about the currency race to the bottom as they attempted to counter each move of the Fed to stay competitive. The only problem with fighting the Fed in this fashion results in run away inflation and citizens tend to get really pissed off about paying 10% higher prices for veggies and meat each month!
13) COUNTRIES TO WATCH -
Based on the three causes of the beating that the emerging market players took last year I am hard-pressed to see if there is any abatement in any of those issues. The answer is no. Based on this, I think it is quite easy to simply pass on China as an option for further long-sided investment.
I am still a huge fan of Indonesia (IDX) simply because it is a really nice chart to trade. I would not be caught adding a position here on IDX unless I saw a pop through $31 (I waited all last year for that) and I'd certainly be watching closely at the $25 level. In a year when China's FXI lose almost 20%, Singapore's EWS lost 21%, and Russia (RSX) lost 29%, IDX was flat when you calculate and add in the dividend. (Chart below is IDX)
I'm a fan of EWS despite the brutal beating and I like EWM too, but once again sell early. Finally, readers will recall that I've had this stalker-like love affair with India where I'd wait and wait and wait for EPI to do something positive.....and it never did. I must believe that India will one day be a powerhouse, but it wasn't last year. I like the bounce EPI had over the last week and if there was a time to do it, it was then. A bounce here could take it to $18 or even $20, I'm just a bit gun shy after seeing a 40% loss of a blood-letting over last year.
Let me wrap things up here. There are the ideas for 2012 and the outlook for the major macro-level areas of the economy. I could say much more about the defensive approach that fund managers are using going into healthcare, consumer staples, defense, and utilities, but I've already said that many times last year, and it was a highly successful venture for any that took action.
I was fortunate enough to call a few big shorts this year too. There were a couple that I was very, very, very early on and just killed it being short on like NFLX, MCP, and RIMM (don't believe me, do a search on the blog for those symbols!). I did tend to sell those too early as is often the case, I think I am so conditioned to believe that some invisible hand will appear and save crappy companies that I am willing to exit trades that I know could be much bigger winners. That is one of my goals for this trading year, to keep my foot on the throat of dying losers and cash in on them in a much more significant way. I'll be looking for those entries in earnest in April. I can't let this section go without mentioning GRPN. Groupon will be one firm that is out of business in the next 5 years and therefore it is clearly an equity to focus on if it can ever gain any traction and get a bounce.
DISCLAIMER - THE EVENT THAT MESSES UP ALL PREDICTIONS (A swan that makes black swans shake in their boots)
Finally, let me throw in one last disclaimer because it is important. All of these predictions in some way assume that the US, Israel, Europe, and Iran (along with the Persian country's allies, Russia and China) don't get involved in a real and escalated shootin' match. If that happens all bets are off. I don't think this is a situation where the markets rally like they did in 1991after Saddam invaded Kuwait and we invaded Iraq in the first Gulf War. If there was a quick overthrow internally of the Iranian leadership and hostilities ceased then I think that a bull market rally could follow, but I don't predict that kind of easy internal outcome and frankly I am terrified that an EMP attack on the USA is really something that is possible. If that were the result from a conflict our markets would cease to trade and the world as we knew it would be over in the blink of an eye. An EMP assault on our country would make New Orleans after Katrina look like a picnic and a fun day at the park.
Please read the follow up post that I'll put up over the next couple of days which will include bonus predictions on the elections, healthcare, and foreign policy. Honestly, I think all of those topics may drive the markets more than we appreciate, but this post is about stating where I think things will go and specific reasons why. The broader drivers like these topics should be covered in another post, so look for it soon!