Insights & Advice


At The Brink

Oil has held the world’s stock markets hostage for several weeks now and this week was no different. What is different however is that the S&P 500 broke a key support level at 1325 on fairly heavy volume However, Friday was also an options expiration date when funny things happen to stocks that have nothing to do with valuations. So I’ll give the market the benefit of the doubt until Monday’s close. If the market regains support and moves higher that would be a good sign. If it doesn’t the next stop will be 5-6% lower.

I have said before that when oil breaks the stock market could take that as a welcome sign and move higher. However, weighing on that move is the continuing problems in the banking sector where more write-downs, write-offs and a seemingly unquenchable thirst for additional capital have nipped every attempted rally in the bud.

Treasury Secretary Paulson expressed his own on-going concerns about the financial sectors on Thursday when he urged the government to give more oversight authority to the Federal Reserve in regulating financial markets. The photo of two Bear Sterns hedge fund managers in handcuffs on the front page of most papers Friday simply illustrates the on-going problems that still need to be confronted by the banks and brokers in this country.

A new topic of concern has also surfaced. Investors are questioning how much of the money the Federal Reserve Bank has been lending to banks and brokers have contributed to the speculative rise in the oil markets. Recall that over the last few months the Fed has allowed both banks and investment banks to borrow billions at very low rates. The objective of that bail-out was to coax these lending institutions to turn around and loan that money to their existing customers and thereby break the credit logjam. The evidence suggests that only a small portion of that money has reached the target market to date.

The explanation thus far has been that instead of lending the money out, the banks/brokers have been hoarding the cash. Yet some believe that a lot of that money is finding its way onto proprietary trading desks where, desperate to make back some of their sub-prime losses; some big financial institutions have been making a quick buck by speculating in the commodities markets. If true, this could be a major embarrassment to the Fed and the Treasury.

In the meantime, natural gas hit my target of $13.20/mmbtu. but commodities do have the tendency to overshot technical targets both on the down as well as the upside. Recall that my price target for oil was $128-130/bbl. and oil continued to climb by another $10/bbl. before stalling. The announcement that China is planning to hike their subsidized energy prices by a whopping 18% may put a dent in the bull’s case for oil short term although oil still finished the week at a lofty $134.62/bbl…

Gold, on the other hand, seems to be perking up a bit and is now above $900/oz. It is conceivable that the “hot money” may abandon their speculative positions in energy and move into gold now that everyone but the Terminator is out to get them. Other commodities like copper, aluminum and grains are also moving up on the back of inflation expectations and the impact of flooding in the mid-west. See my column on “Water—down to a trickle” for more about food and water investments.

So what does a reader do if the market faces a down draft here? One can go to cash but I wouldn’t advise that. Cash pays you nothing and inflation erodes its value everyday. Treasury bonds are a traditional haven but after Friday you can believe that bond prices are already higher and once again the yield won’t keep up with inflation. There are income funds which will pay you a decent return and I suspect you will lose less then in stocks. And then there are inverse securities, exchange trade funds that go up when the stock market goes down. Few investors use them although they were conceived as a hedging tool in situations just like we face in the markets today. Be sure to read next Friday’s column on the subject or if you can’t wait feel free to call, e-mail or write me using the information below.

Posted in At the Market, The Retired Advisor