Liquidity Cycle

The past week had the feel of a big week but looking back much of the price movement was back and forth over the same ground. Monday the market absorbed selling resulting from the sharp break on the previous Friday and finished near unchanged. Tuesday was the one big mover of the week and it was down sharply into the support level in the low 1400s. The rest of the week consisted of 15 point swings back and forth. At least that is how the SPX moved.

This chart of the Technology sector etf ( XLK) with an overlay of the Liquidity Cycle Indicator shows rather vividly how the break in the market leading technology group is taking the broad market down and killing the upside momentum. Certainly, this may be no more than a correction but when leaders up become leaders down it is worth noting. A change in market leadership usually takes more time than a mere correction.

The picture is a bit more worrisome if we look at the Nasdaq or Technology.

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Bespoke Investments weekly carried the following comment and charts:

Sectors

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A useful look at ETF performance compiled by Bespoke Investment for the weekly review.

In the Emerging and Less Developed group leaders were, Egypt, Thailand, and Turkey. It might take a strong stomach to put on that position. Lagging behind were China, Brazil, and Argentina.

The past week shows up with a lot of red everywhere but the fixed income markets but year to date most markets are still green. I suppose all that money being supplied by central banks has to go somewhere. On a long timeframe somewhere is likely to be up in smoke. Paper and ink in the hands of government do not have a positive history of providing lasting investment value. David Einhorn has some pertinent remarks in a video I will include later in this document.

Country Equity performance rankings in Developed countries, followed by emerging countries. Top ranked New Zealand, Greece (whoa), Germany and weakest was Japan, Sweden, and Canada based on the view of a US Dollar based investor.

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Index Volatility Tables

Implied vols climbed back into the middle of the range in the US this week. Volatilities stayed more subdued in other world wide markets.

The charts below show implied vols finally jumped above realized this week reflecting the wide movement back in forth over the same ground. Skew levels have moved back toward more average levels. Here are implied /realized for SPX and DAX.

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Commodities
Metals, softs and grains all had vols in the bottom of recent ranges only the energy markets had vols up as high as the middle of ranges.

The energy markets in particular saw implied vols climb above realized as did wheat cotton and gold. Skews climbed in copper and wheat.

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Currency Volatilities Most pairs have volatilities in the lower end of the recent ranges. Exceptions are USDPY. USDRUB, USDCNY the latter of which is in the top of its recent range.

Brent and Gold both saw Implied vols (black) climb above realized. Even though they are generally low Implied vols leaped above realized vols in many markets this week. Complacency was diminishing. Skews expanded in the major pairs also indicating some protective positions were being put on.

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The Euro is jitterbugging around while the leadership in Europe continue to waffle around with total confidence in their ability to avoid doing anything unpleasant. The currency is sitting right in the middle of its most actively traded price zone as depicted by the distribution on the left of the chart. The Committments of Trader indicates the heavy Euro short position has been substantially reduced so this market is pretty free to go anywhere. I guess it just depends on who does something stupid first.

Brent Crude below and the 200 day moving average shows almost zero net direction this year.

This chart from Global Economics Intersection Blog shows the steady deterioration of Japanese exports as the Yen has strengthened. Japan is having a tough time staying competitive at these Yen levels. There is even talk of a move to set a rate and defend it a la the Swiss Euro line.

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Credit Suisse
Grains are in the latter stages of fall harvest after a tumultuous year. The soybean and wheat charts below picture longer term value areas for reference. Weather in the southern hemisphere will be drivers of price movement from for the winter as there is still no surplus to give markets breathing room. Next Weeks Data and Events US We expect October payrolls at +125K, with a partial reversal of last months unemployment drop (7.9% from 7.8%). The ISM Manufacturing Index is forecasted to hold steady from last month at 51.5. However, news on consumers should be more constructive. Vehicle sales are expected to post a second consecutive 15.0mn unit month. Solid gains in personal income and consumer spending are expected and consumer confidence should reach expansion highs. Developed Europe Spanish 3Q GDP numbers will be released, although they have already been earmarked as falling 0.4% q/q by the Bank of Spain. In the UK we expect manufacturing PMI data to be relatively flat on the month. The data on money and lending will attract attention, particularly if there are any signs of the Funding for Lending scheme feeding into lending activity. Asia Pacific In Japan, the focus is on industrial production for September, which we expect to show another major contraction (2.6% m/m). In China, we expect the official October NBS manufacturing PMI to see further support and re-emerge above the 50 breakeven mark. Elsewhere in emerging Asia, Taiwan will release its preliminary estimate for third quarter GDP, which we expect at 1.3% y/y. Also, we expect Korea exports and manufacturing output to improve from the previous month. Central Banks The BoJs policy board is expected to decide on increasing the size of its asset purchases at the 30 October meeting with the probability for an increase of 20 trillion or more being 50%-55%. The asset purchase completion date is likely to be altered to end-2014 from the current end-2013. We expect the Norges Bank to stay on hold on Wednesday. The rate decision should be non-controversial, while the monetary policy report will be more interesting. In the emerging markets, we expect the Reserve Bank of India to cut the Repo Rate and Cash Reserve Ratio by 25bp. Also, we expect the Central Bank of Hungary to cut the policy rate by 25bp. Elsewhere, central banks in Israel and the Czech Republic should keep interest rates on hold.

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Articles and Commentary

ZeroHedge has a different chart of the Japanese Trade Balance or Imbalance as it were.

Credit Suisse Agriculture Chinas growing imports a new trend? Over the week, China released its second tranche of trade data which included imports of agricultural products such as corn, wheat, rice and sugar. Interestingly, we note that there has been a clear sustained increase in imports of agricultural products this year despite the jump in global prices, particularly in the grains. In year to date terms, Chinese corn imports are up 548%, wheat imports are up 232%, rice imports are up 276%, and sugar imports are up 80%. To us, this is quite a deviation from the recent history of Chinese trade in agriculture, which looked to be self-reliant on grains, focusing imports mainly on soybeans only. However, this has clearly changed recently, as evidenced by the rising imports of corn and wheat, despite the USDAs projections for stronger Chinese crop production in 2012-13. As such, there is also growing concern that the USDA may be over-estimating Chinese production in 2012-13. Then again, it is also possible that China is importing ahead of normal schedules (corn imports tend to be heavier towards the end of the year) to secure supplies, particularly given heightened risks of export supply disruptions

This video (I hope it will play) features Hugh Hendry at the start and then another interview followed at about the 56th minute with David Einhorn. Both interesting.

This week is apparently going to start off under the influence of the Frankenstorm since it is centered on Media City and does present potential for enormous damage. Attention will then inevitably come back to the election. I am asked my opinion about the election a lot in conversation and do little to disguise my preference or more accurately my strong aversion to one side. But what I want to talk about is a fundamental difference in the view of the world that I see as the difference in this election. One side views the wealth in the world as a fixed amount. If one has a lot of wealth it must have been taken from someone elses share. These are the redistibutionists of the world. They are wrong and when they do get control of governments they destroy societys wealth at a prodigious pace. The other side and I count myself among them believe than wealth can be created and the pie enlarged. This seems so obvious I cannot believe any rational person could believe otherwise. If no new wealth could be created we would still be living in caves and scouring for berries. Someone invented the wheel, irrigation, fishing boats, the screw, and so on to the I-phone. Each time the world was better off, wealthier and the pie expanded. Wealth is not spread out evenly but it is increased. If an economic system does not foster this growth it will fail. If your candidate does not believe in a growing pie, well, you decide. Bruce Lawrence Oct 29, 2012 Good luck to all of you on the East Coast this week.

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