Can Flying Robots Do The Job?

Charts: The S&P 500 closed at 1057, down .33%. American charts look bearish but emerging markets are looking much better. So the overall picture isn’t as bad as it seems chart-wise. 1050 offers psychological support and 1039 is the August intraday high, so that’s next support. After that 1033.

Fundamentals: The Chicago Purchasing Manager Index fell to 46 from 50. It was forecast to increase to 52. This index represents the manufacturing heartland and is the biggest of the regional surveys. It’s unexpected fall is one sign that the restocking theory is correct, which is to say that the big improvements we’ve seen in industrial activity has been due mostly to inventories being replenished, filling a void left behind after all economic activity came to a halt due to Lehman’s collapse, not genuine consumer demand. The bad Chicago numbers are just one sign and every other regional survey came in stronger than the Chicago PMI. The national PMI comes out Thursday and may tell a different story. The FDIC said that it will need to be bailed out by treasury debt to the tune of $100 billion. It actually said that it wants to soak the banks it protects by that amount, but since that is politically and economically impossible treasury debt is the only alternative. The fundies are bad today.

Geopolitics: Team Obama is beginning the review of McChrystal’s troop request today. We are supposed to have the President’s answer in weeks. The Team ordered two new Reaper drones into the CIA’s Pakistani fleet and hinted that the flying robots will soon be striking targets in Afghanistan. At the same time unexpectedly large troop withdrawals are announced for Iraq. Also, the Marines had shifted from offense to defense (protecting Afghan citizens verse attacking the Taliban) a little over a month ago when McChrystal first wrote his big policy review. Now the Army and Marines seem to be going back on offense and abandoning defense. This is my revised prediction: Troops will be drawn down aggressively in Iraq. Troop levels will stay the same in Afghanistan but drone power will be added as swiftly as possible. There will be spikes in Afghan civilian deaths from suicide bombers which will last until they raise neighborhood watch groups like in Iraq. Way more bad guys will die but good guy deaths won’t go up by very much. McChrystal’s plan would work better but not without more troops. If more troops are not forthcoming then the new plan (probably created by Petraeus) is a good idea. Here’s how we will know if the Petraeus Plan is working. Casualties spike in Iraq but then come way down, so US troops are indeed no longer needed there. If that happens plus the offensive makes headway in Afghanistan, then maybe it will work. Pakistan will have to step it up from the already terrific effort they’ve put in so far. The American public will have to hang in for three or four years without demanding troop withdrawals from Afghanistan. Troops come out of Iraq and that’s it.

Good News From The Long War

Charts: The S&P 500 closed at 1061, down .2%. Last week saw leadership fall apart. Monday saw it come back together as the broad index popped. Today leadership was indifferent although we saw another fade at the end which was not good after all the recent volatility. The charts are so-so.

Fundamentals: On Monday the market recovered most of last week’s losses as a half-dozen M&A deals countered evidence that the tax credit boost to housing was wearing off, which spooked the markets. After the bad housing news, the administration said it wants to shove another $35 billion of Federal debt into subsidized low income housing. It’s a bad idea and probably can’t get past the Blue Dogs and Republicans. The government’s subprime mortgage machine, FHA, is now levered 55-1. Bear Sterns was levered 33-1 the day before it collapsed. So FHA will soon be bailed out with treasury debt. Not all is gloom and doom on the deficit; the most recent opinion polls on healthcare reform show voter support is sinking faster than the Titanic hitting an iceberg.

Geopolitics: There is good news from the Long War. In Afghanistan, the Marines led the Afghan Army in a very successful battle that resulted in about 40 dead bad guys including several Taliban commanders and zero dead good guys. We have two slightly conflicting body counts from NATO and the Afghan government. It is heartening that NATO is giving a body count, a sign that it won’t allow the bad guys to control public opinion in America. In Pakistan, two separate CIA drone flights killed 3 bad guys in North Waziristan and 5 bad guys in South Waziristan. The dead include high quality Taliban leaders and Al-Qaeda operatives. North Waziristan is where the top Al-Qaeda leaders are hiding and it has been off limits up till now. If the Paki Army is giving the green light to the CIA to rip into Al-Qaeda in N. Waziristan it means that the good guys are strong enough that they no longer need to pussyfoot around and make deals with the N. Waziristan Taliban, which has been the case up until now. Combine this with the fact that Paki civilian leaders hinted yesterday that the Paki Army is at long last getting ready to push into the Waziristan region and we have one of our best news days in while.

Liberals Fly White Flag

Charts: The S&P 500 closed at 1044, down .61%. We aren’t seeing institutional investors buying on dips this week (bearish). The market’s recent gains have been so fast and furious and the year ago period that we have to look back at for meaningful support and resistance saw losses so equally fast and furious that there is no clear technical picture. The August upper range of 1033, therefore, offers support and 1100 is resistance.

Fundamentals: New home sales were flat in August, defying expectations for a big increase, further proof that the tax credit boost is waning. Durable goods orders also disappointed. The Consumer Sentiment Index came in much better than expected because it is now following stock prices. In other words, Wall Street is leading Main Street in a positive feedback loop that should keep working as long as the stock market only goes up. Obviously if stocks tank the feedback loop is reversed (scary).
Housing experts are now saying that the shadow supply is close to 7 million homes (staggeringly huge). The market is ignoring this looming hazard to large cap financials. Another looming hazard is the $300 billion loss that small cap regional banks face on souring commercial real estate loans. The market is not completely irrational by ignoring these big icebergs that the economy is sailing straight into. The Fed knows that banks have big losses on the horizon and will therefore keep interest rates at zero for a long time to artificially boost financial sector profits and (hopefully) allow this sector to amass enough capital to withstand the coming disasters. The market thinks that permanently low interest rates will keep inflating the stock bubble and fundamentals can safely be ignored.
If fundies don’t pop the stock bubble first it will get popped by the coming healthcare package. Obama-Care will resemble the Massachusetts State Healthcare System (Mass-Care). The original cost projections for Mass-Care were 60% too low. In the 1960s the Federal government underestimated the future costs of Medicare by 90%. So instead of costing $1 trillion over ten years, Obama-Care will cost several trillion dollars. Higher than expected government debt will make it impossible to keep interest rates low enough to bailout banks indirectly. All this gloom and doom could be mitigated by a turnaround in the currently dicey geopolitical situation.

Geopolitics: In Pakistan, CIA drones have killed about a dozen bad guys in recent strikes. The Paki Army is killing on average 15 bad guys a day in the Swat Valley. That’s good news on the surface but the Paki Army is supposed to have been pushing into South Waziristan by now and instead it is still bogged down in Swat. In America, liberals have honed their argument for taking troops out of Afghanistan by saying that the real bad guys are Al-Qaeda, not the Taliban, and Al-Qaeda is in Pakistan only, therefore simply flying drones and stepping up foreign aid to Pakistan is plenty good enough and we can stop fighting and spending money in Afghanistan (moronic). Over the summer the FBI has foiled 4 Islamic terror plots in the US. One was directly linked to Al-Qaeda. One was purely homegrown. Two had some Mid-East linkage. What will happen in the US if America flies a white flag in Afghanistan?

Market Timing Is Difficult

Charts: The S&P 500 closed at 1051, down 1%. Volume levels and the advance/decline line have been ugly today and yesterday but the two days have done little technical damage because the 6 month uptrend has been the strongest in 70 years. Support for the S&P 500 is at 1033 and resistance is 1100, a gigantic gap that leaves the technical picture in a sort of no-man’s land. It could go a long way in either direction and not change the chart outlook.

Fundamentals: Existing home sales fell 2.7%, the first decline in 5 months. The fall obviously was due to the impending expiration of the first time home buyer tax credit in late November. Along these same lines, auto sales have fallen dramatically with the expiration of the clunker subsidy. This leads us back to the ancient Keynesian debate about whether deficit fueled government stimulus programs can really end a recession. In the long run stimulus only makes matters worse and as I’ve been saying this is not a buy and hold market. Market timing is extremely difficult, nevertheless we should all be thinking about it.

Geopolitics: The President gave a good speech at the UN yesterday. He slammed Israel and hinted at reducing America’s nuclear arsenal. Russia responded by hinting it will support tougher sanctions against Iran. Obama does well in all foreign policy matters that are cheap and don’t involve shedding American blood. But day by day the Pentagon and the White House are moving apart on McChrystal’s troop request. Yesterday General Petraeus (in charge of the entire Mid-East) said that we must put extra troops in Afghanistan and VP Joe Biden said that we can sharply reduce troop levels and make up the difference by flying more drone missions over Pakistan. Petraeus is a military genius and Biden is an idiot. Maybe Obama is just playing hard to get with the Pentagon to appease liberal Democrats and once he’s made a big enough show the troop request will be granted, I hope so. The Pentagon has been caught flat-footed by the White House’s seeming turnaround on Afghanistan. If the White House has indeed reversed course the reason is the rocky prospects for healthcare reform. Liberals will go berserk if healthcare goes down in flames while the Afghan war is escalating.

Don't Teach Grandma To Suck Eggs

Charts: The S&P 500 closed at 1061, down 1%. The charts were scary today. On the surface very little technical damage was created by this small drop. But the market’s reaction to the Fed’s statement was disquieting. The Fed announced more bubble-inducing liquidity measures. And like a trained seal the market roared up, but towards the close profit-takers sold it down. So today was a mini-bubble pop.

Fundamentals: The Fed said today that it is extending its program to buy US housing debt. So far it has bought $857 billion in mortgage backed securities and $130 billion in Fannie and Freddie debt. The Fed acknowledges that it will have to be much more aggressive than that. Congress is getting ready to nearly double its $8000 first time home buyer tax credit and expand it to all home buyers (hugely expensive). We’ve already talked about the FHA’s trillion dollars worth of sub-prime mortgage lending. Federal support for housing is mind-boggling. Meanwhile, the gap between home owners who are delinquent on their loans and those in foreclosure is at an all-time high and climbing. In other words, many delinquent home owners aren’t being foreclosed and the shadow supply in housing is growing. Despite rules and regs limiting foreclosures, they too are at an all-time high. So the housing recovery and the global economic recovery is built on ever-expanding US debt which is built on foreign debt buyers stepping up to the plate. Russia and the Gulf States have cut back on buying US debt. Japan and China have filled this gap and are buying more. So let’s look at asset bubbles. From 1998 to 2000 tech stocks rocketed up, not on fundamentals but because of excess liquidity, like today. Bubbles can last up to two years. Or they can pop unpredictably at any time. This speaks to the need for market timing, not buy and hold.

Geopolitics: Team Obama has told General McChrystal not to send his troop request to the White House. McChrystal is openly defying Team Obama and sending the request in a couple days, setting up a huge political battle. Liberals are saying that America should withdraw US troops immediately while training the Afghan Army, expanding the Afghan Army and deploying it against the bad guys, all in one fell swoop (laughable and absurd). This is what McChrystal is saying: Even with the extra troops NATO doesn’t have the horsepower to defeat the Taliban. But if the troop request is granted the good guys will have enough horsepower to protect Afghani citizens in several key cities. This will give US Army trainers breathing space to build-up and train the Afghan Army from within those key cities and then in a few years the Afghan Army, the American Army, and the Pakistani Army together will be able to completely defeat the bad guys. That strategy will work if it is given a chance. Frankly, I’ve been caught off guard by how hard Team Obama is digging in its heels on the troop request.
The Philippine Army captured Abu Sayyaf’s main base. Abu Sayyaf is the most dangerous Al-Qaeda franchisee in Southeast Asia. This is a huge victory. The Yemeni Army killed 150 bad guys and took 70 prisoners Sunday. These two national armies are US proxies. Especially in the Philippines, the US military is heavily involved in training. So the liberals are right in a way, the brunt of the Long War fighting needs to be done by America’s proxy armies. Have you ever heard the saying, “Don’t teach your old Grandma how to suck eggs?” The Pentagon knows how to build up and deploy proxy armies. It doesn’t need a bunch of liberal dummies on Capitol Hill teaching it how to suck eggs.

Pentagon Gut-Punches Obama

Charts: The S&P 500 closed at 1072, up .7%. Short term and long term technicals are positive. Resistance is at 1100 and it should be very stiff.

Fundamentals: The government reported today that home prices are rising more than expected, re-inflating the housing bubble. 80% of US mortgages are backed by the government and its debt machine. Heaven and Earth are being moved to support housing. It is a dangerous game but at least it’s working. Today commodity prices roared up. Inflation is stirring like an ugly giant. Inflation exacerbates negative interest rates, turbo-charging this liquidity fueled bull market. M&A also turbo-charges stocks. Dell just made a big acquisition. The biggest miner in the world, BHP, says it is ready to make a big acquisition and that it must do so before China’s strong recovery pushes up commodities and the share prices of all the other mining companies. Therefore, BHP is very bullish. The fundamentals are good but not great. Is the biggest rally in 70 years justified by these fundamentals? Bonds, commodities, and stocks are all still moving in the same direction—a sign of a liquidity driven market.

Geopolitics: Obama is essentially telling the Pentagon that they won’t get extra troops in Afghanistan until after healthcare reform is passed (could take months or years). Don’t panic, this is the new savvy and sophisticated Pentagon. It responded by leaking McChrystal’s report to super reporter Bob Woodward in such a way that Obama knew the leak was deliberate and came from the very upper level of the military, a stunningly bold declaration of war against the White House. The report itself was written to shape public opinion by saying that without extra troops the war will be lost in Afghanistan. While all this was going on the FBI busted a fully functioning Al-Qaeda cell in Colorado that was just about ready to bomb mass transit hubs. The FBI bust was good timing for the Pentagon’s leak. We are seeing a new front in the Long War—a political battle for the hearts and minds of American voters.
Team Obama sitting on the troop request is disappointing; however, let’s not assume that the Team has gone from hero to zero on foreign policy. Consider: Under American pressure Pakistan is slowly crushing the good-bad-guy terrorist group LET (it committed the Mumbai terror attack last year under ISI direction). By crushing LET, Pakistan is beginning to heal a major wound with India. Pakistan has several hundred thousand troops on the Indian frontier, more troops than the entire US Marine Corp. If Pakistan really clobbers its own pet terrorist group (LET), India will reward Pakistan by moving Indian troops off the frontier. This could free up massive numbers of good guys for the war against the Taliban. Afghanistan and Pakistan are one theater in the Long War and elite Paki troops are nearly as good as US Marines and potentially much more plentiful.

Specific Stocks: South Korea (EWY) is being upgraded from an emerging market to a developed market. This forces FTSE funds to buy Korean shares. Goldman Sachs issued a report that says when South and North Korea merge an economic giant will emerge that eventually will be bigger than Germany. Team Obama is determined to force so-called net neutrality rules on the web. This helps Google (GOOG) and Microsoft (MSFT) and it hurts AT&T (ATT).

No Geopolitics. Focus on Charts & Fundies

Charts: The S&P 500 is up a scorching 58% from its March low. The 200-day moving average (the primary long term indicator telling us whether or not we are in a bull market) is 20% below the index, a historically huge gap screaming that we are in a long term bull market. The last time it was this far under the index was 1983 and that bull market lasted 25 more years. From March to late August value stocks beat or paced growth stocks. Value always beats growth in the early stages of a bull, mainly due to explosives gains from short covering but also because value investors are more courageous (sort of) than growth investors and dive in first. As a bull matures value leadership is technically bearish and this is what derailed the second rally leg of the current bull market. But the third leg has seen better leadership. Starting in September growth started to beat value. Last week growth stocks screamed upward, providing the highest quality leadership so far in this bull. A growth stock is one where earnings are growing more quickly than the index average, companies that are actually making more money and expanding, not simply avoiding bankruptcy like a beaten down value stock. The leadership change from value to growth is another bullish long term indicator. And we’ve watched leadership switch from China to America as the bull matures. Since America’s economy is almost twice as big as #2 China’s and Uncle Sam is the globe’s cop, this leadership change is another indicator that we are in a multi-year bull market. Therefore, the charts are telling growth investors to pile into growth-type market leaders like GMCR, BIDU, and PEGA. Party on!

Fundamentals: Stop partying. In 1983, when the long term indicator looks like it does today, the economy was growing at about 7%, or 14 times greater than America’s current growth rate (probably about .5% if inventory distortions are accounted for). A 58% rise in the S&P 500 from a bear low on average occurs in the third year of a recovery. So if the recovery is 3 months old, the current market gains are 12 times faster than normal. Most analysts agree that these outsized gains are partially or mainly driven by excess liquidity, which we’ve already discussed. Bubbles fueled by liquidity can last two years and the world’s central banks are in no mood to turn off the tap. So that speaks to holding our stock positions for now but we need to understand what’s happening so we can cash out in time. Milton Friedman taught us that inflation is always a monetary phenomenon. There are many different measures or slices of money supply and during this recovery the different slices are expanding at different rates and in an atypical manner. Since the broadest measures of money supply aren’t expanding very much there has been little consumer inflation, instead we are seeing inflation occurring in asset prices like commodities, stocks, and bonds. The fact that they all 3 are moving roughly in unison (which is atypical) is further proof that we are experiencing asset inflation, not the predictive power of the stock market telling us that a super-strong economic recovery is on the horizon. When bond prices go up and interest rates are low that is supposedly a prediction of further recession. But neither one is really predicting anything. Funds are simply flowing out of money market accounts because of negative real interest rates.
The counter-argument to all of the above is that certain emerging markets are growing at a breakneck pace and these tigers will lift the dinosaurs up very soon through massive export growth. It is also possible that the wealth effect of a surging stock market will stoke consumer spending in the dinosaur economies and the elusive super-strong recovery will then take hold. But this is a bit of stretch so we need to start thinking about market timing and cashing in the big gains that we’ve made so far.

Right-Wing Critics Are Stupid

Charts: The S&P 500 closed at 1068. Up .27%. Today was quadruple witching expiration day which renders chart analysis almost meaningless. Still the mere fact that it was a quiet day in the face of expiration driven volatility was bullish.

Fundamentals: This week saw two gigantic oil discoveries in central Africa and off the coast of Africa. These titanic oil finds are the tip of the iceberg. Africa is the next great frontier for oil exploration. In Nigeria, non-Islamic rebel group MEND has extended its ceasefire with the government, potentially opening up millions of barrels worth of African oil production. In Africa geopolitics and fundamentals are converging. Professor Roubini tells us that if oil hits $100, our goose is cooked. The recession had a lot more to do with oil hitting $147 than Lehman Brother’s collapse. And the Long War has everything to do with keeping oil prices low by stopping the bad guys in Africa. Blood for oil? Hell yes!

Geopolitics: Team Obama is backing away from American ICBM defense (brilliant and bullish). North Korea and Iran are years away from building nuclear tipped ICBMs; therefore only Russia and China are helped by this move. We need Russia and China as allies in the Long War and they need us. China reported last week that it foiled a plot by its Islamic rebels to carry out suicide bombings. This was the first attempt to employ Al-Qaeda techniques in China (scary). The North Caucus region of Russia continues to suffer an unrelenting drumbeat of Islamic violence, steadily increasing week by week (bone-chilling). America, China, and Russia are taking a baby step toward forming a world-straddling alliance against Islamic bad guys with this move. Right-wingers are stupidly criticizing it. That’s good too. It makes the Team look dovish.
In Somalia, bad guys struck an African Union (AU) base and killed several good guys. But that attack only served to piss off the AU, now it is planning an offensive against an Al-Shabab village. The CIA is opening a public office in Mogadishu. Years of fighting lay ahead in Somalia but with the AU teaming up with the CIA and US Special Forces, the combat should be sustainable.
Indonesia security forces killed Southeast Asia’s #1 bad guy, Noordin Top. Indonesian good guys are trained by the US. In the West Bank, violence between Israelis and Palestinians is declining rapidly because Palestinian cops are trained by the US and doing a good job. These two factoids show how vital global US involvement is in the Long War.
The war is Northern Yemen is getting very hot. Yemeni warplanes bombed a refugee camp, killing scores of people. The camp was probably full of bad guys mixed with civilians. Human rights groups are all over the Yemeni government but there’s not much they can do. We don’t know how involved the US is in this war but Saudi Arabia is neck deep.
After the 6 Italian soldiers were killed in Afghanistan, European NATO countries all say that they have no immediate plans for pulling troops out of country. Opinion polls in Europe for the war effort are horrible, the pressure to pull out is enormous, but the leaders so far are holding firm. The Taliban’s mini-Tet Offensive isn’t working yet.
In Pakistan, bad guys killed more than two dozen civilians when a suicide bomber attacked a hotel full of Shiites. The Taliban and Al-Qaeda are Sunni and hate Shiites with a purple passion, plus they want to stir up a civil war between the two sects like they did in Iraq. The Paki Army killed 23 bad guys with zero good guys killed.
So ends another bloody day in the Long War. The above action resulted in roughly 200 people killed. I mention this because only big wars affect the stock market and the many disparate fronts of the Long War give the illusion that it is not a single big war. It is one big war and the good guys are winning, so far.

Specific Stocks: Team Obama isn’t simply canning ICBM defense, it is bolstering short and medium range missile defense. This helps Raytheon (RTN) and its Patriot system. Also, Turkey is buying Patriot batteries to defend against Iran. Killing super bad guy Noordin Top helps stocks in Indonesia (IF) and Malaysia (EWM).

Taliban Tries Tet

Charts: The S&P 500 closed at 1065, down .3%. The index had been finishing in the high range of trading at day’s end throughout most of this rally leg. Today it weakened into the finish, which is bearish, but the decline was so small that the technical damage was insignificant.

Fundamentals: First time jobless claims came in better than expected and continuing claims were quite a bit worse. Revisions to old data came in worse, which has been a trend lately. The market usually ignores revisions but it might be paying more attention now. The Philly Manufacturing Index came in strong. Housing starts were strong but the more forward looking building permits number disappointed, maybe a sign of what will happen if the first time home buyer tax credit is allowed to expire in late November. Overall the fundies were weak today.

Geopolitics: In Afghanistan, the Taliban killed 6 Italian soldiers in the supposedly safe capital city Kabul. The Taliban is probably trying a Tet Offensive-type strategy, taking a page from the Vietnam War. In 1968 North Vietnam knew there was a lot of liberal American media in South Vietnam. With an eye to that media presence, the North committed its entire conventional army and guerilla army (the Viet Cong) in what amounted to a suicidal offensive that lasted about two months. Images of the fighting were broadcast into homes of American TV viewers along with liberal defeatist commentary. At the end of the offensive the Viet Cong were utterly destroyed and the North’s conventional army was in tatters. A massive defeat for the bad guys in one sense. The rest of the war should have been a cakewalk. But the offensive turned the tide of public opinion in America and proved to be a brilliant move. Ever since, this strategy has been a blueprint for defeating the US. Warlords in Somalia used the strategy successfully during the Clinton administration in the Blackhawk Down incident, where a tiny ragtag group of bad guys were able to project images of dead US soldiers being dragged around the streets of Mogadishu into American households. In a blind panic, Clinton pulled US troops out of Somalia, a flea biting an elephant and the elephant actually runs away. Osama bin Laden said that the Blackhawk Down incident had a profound effect on him. However, Obama has more backbone than Bill Clinton.
The war in Pakistan is going well. It turns out that the Al-Qaeda officers that CIA drones have been killing lately are higher quality targets than initially supposed, top aides to Osama bin Laden. The Paki Taliban has taken to robbing banks to get funding. This means that the drones are cutting off their money supply by killing Al-Qaeda fund raisers.

Obama Kicks It Old School

Charts: The S&P 500 closed at 1069, up 1.5%. The only way to be technically bullish about this mad upward tear is to buy into the theory I put forth yesterday, the chart action from January to May doesn’t count and only the year to date gains are important, which aren’t that big for the first year in a new bull market. The fundamental basis for this technical view is that credit swap markets are now much better (true) and that housing has recovered (maybe). Resistance is at 1100.

Fundamentals: Industrial production came in much better than expected today. Throughout the bull market and the nascent recovery industrial data has been better than service sector data. This trend is so pervasive it is probably indicating a structural shift and speaks to being overweight industrials. There was more M&A activity today, which tends to turbo-charge stocks. The dollar is replacing the yen as the main funding currency for the carry trade. This will weaken the dollar even more, boost investment in countries with higher yielding currencies (like Brazil), help American companies with big overseas sales, and bolster gold mining stocks.

Geopolitics: Obama has the power to simply order more troops into Afghanistan. The only way Congress could do anything about it would be to cut off funding for the troops while they are in the middle of a war. This is a virtual impossibility because the Blue Dog Democrats and the Republicans are strongly in support of the troop increase. Also, the public would go insane if a bunch of combat deaths resulted from good guys running out of ammunition. This is what liberal legislators don’t understand, before Jimmy Carter there has never been an economically left-wing President who was also a dove. FDR, Truman, JFK, and LBJ were extreme hawks. They represent the foreign policy old school of the Democrats. The old school is back, at least in the White House. Chairman of the Joint Chiefs, Admiral Mike Mullen, told off the liberals in the Senate Armed Service Committee yesterday while he was suppose to be bowing, scrapping, and begging to be renominated for his Chairmanship. The liberals on the committee were slack-jawed with amazement when the Admiral started slapping them around. Where did he get the balls to do that? This is what the President said after Mullen’s testimony, “There is no immediate decision pending on resources [for Afghanistan]” and “Afghanistan is not Vietnam.” So Obama is calling the request for more troops a request for “resources,” the Pentagon and hawkish think tanks have been using the term “resources” also. And the comment about Vietnam is pretty obvious.

Specific Stocks: Better than being best in breed is going from second best to number one. DuPont (DD) for years got clobbered by Monsanto in genetically modified seeds. But now DuPont seeds are better. Nokia (NOK) has been weak for a long time but now it is getting its mojo back and going after RIMM, creating new net-book products, and partnering with Intel and Microsoft for other exciting new gizmos. Barrick Gold (ABX) is the biggest gold miner. Goldcorp (GG) is the lowest cost producer, aggressively opening new mines, and does not hedge against price changes in the yellow metal. Miners almost always screw up when they hedge, losing money on the majority of their hedges.

At Last We Have A Bad Guy Body Count

Charts: The S&P 500 closed at 1053, up .3%. Leadership is with materials and industrials, which is good. This is what bullish chartists are saying: In 2008 the index was down 38%, a severe but not historically bad bear market. So far in 2009 the index is up only 16%, a normal bounce back from a harsh bear. Forget the 55% gain from the March low and also forget the huge drop from January to March. Smooth out the charts and the rally doesn’t look all that scary. Relax. Quit freaking out. I’m not that bullish, but that’s what they are saying.

Fundamentals: Retail sales came in much better than expected. The Empire Manufacturing Index came in better than expected. Wholesale inflation came in worse (higher) than expected. With the loosest monetary policy in history, plus one of the highest ever levels of deficit spending, inflation could eventually kill the recovery by jacking up interest rates. But for now inflation is helping the bull market. The uptrend is driven more by excess liquidity than fundamentals. Central banks around the world are shoveling money into private banks. Because the recovery is weak, the private banks aren’t lending the extra funds; instead all that dough is being parked in reserve accounts, driving down interest rates on cash. In real terms (accounting for inflation) cash is paying negative interest. This drives money into the stock market and commodities, making for an explosive but fragile bull market.

Geopolitics: Four American helicopter gunships took off from a warship in the Indian Ocean and opened fire on an Al-Shabab motor convoy deep in the heart of Somalia, killing several bad guys. The choppers landed and US Special Forces soldiers pulled living and dead bad guys out of the wreckage. Among the dead was top Al-Qaeda officer Saleh Ali Saleh Nabhan, who was running training camps in Somalia for American-born Somali fighters. Nabhan is very famous and has been responsible for some of Africa’s showiest terror attacks. This incident is further proof that the CIA is heavily involved in the Somali war (bullish). There are also rumors of French involvement in the operation.
The Paki Army’s new offensive is going well. Recent fighting resulted in 19 dead bad guys and 3 dead good guys. Continuing a recent trend, dozens of bad guys surrendered rather than fight to the death, potentially offering a treasure trove of intelligence to the ISI, which is not hobbled by human rights concerns. CIA drones killed 4 bad guys Monday, 2 of them were Al-Qaeda. Reaper Drones have killed 12 bad guys in 3 separate strikes in the past week, harvesting a high percentage of dead Al-Qaeda operatives, which are higher quality targets than Taliban because Al-Qaeda finances bad guy combat operations. The drone strikes have been near the border region, which means they are helping the situation in Afghanistan.
We now know that fighting in Afghanistan is going better than supposed because the Afghan government is at last giving a bad guy body count, fed up with the Pentagon’s ill-conceived tight-lipped policy. The Afghan government says 27 bad guys were killed today, one day after 50 were killed.
Chairman of the Joint Chiefs, Mike Mullen, told the Senate Armed Services Committee that the troop request was coming very soon and they better grant it. Ultra-peacenik Senator Carl Levin opined that more US trainers should be sent to Afghanistan not more troops, this way the Afghan Army can take over right away and destroy the bad guys all by itself and American troops can immediately come home. In diplomatic language, the Admiral told the Senator that he’s out of his mind. I think the debate over the troop request is going okay.

Specific stocks: With inflation rearing its head, material stocks should do well. About half the stocks mentioned here have been in that space. Among those old favorites, Cleveland Natural Resources (CLF) could be a takeover target from China. The market knows this of course and CLF is up 17% in five days. A lower risk material stock is DuPont (DD). BUCY and JOYG make mining gear and are also in this space.

Trade War? Probably Not.

Charts: The S&P 500 closed at 1049, up .6%. Global markets tanked overnight on fears of a trade war between China and America. The US market held its ground and even rallied. If world markets respond in kind it shows leadership is still with the US, which is bullish. Within the S&P 500 today financials led, which is iffy but its only one day.

Fundamentals: The most bearish thing that can happen to the stock market is a trade war. Unfortunately, Team Obama slapped tariffs on Chinese tires Friday evening. Over the weekend China retaliated by threatening to put tariffs on American chicken and auto parts. China’s reaction is subdued because it already restricts chicken and auto parts; clearly China doesn’t want to escalate the situation and the ball is now in America’s court. If the two global giants fire any more trade salvos at each other, the damage will be immense. Team Obama started this potential trade war as a way of getting unions onboard the healthcare package. In a way this is good news, Team Obama isn’t really hell-bent on protectionism, it just wants to pass Obama-Care. As we’ve seen, the healthcare package has already held up McChrystal’s request for new troops. Healthcare is wreaking havoc with the fundies and geopolitics. If it continues to fester more damage is in store. Team Obama can only push it through by coming down hard in favor of radically curbing malpractice lawsuits, which will infuriate trial attorneys. Team Obama is slowly coming to this realization but is afraid of what trial attorneys can do in retaliation.

Geopolitics: The Paki Army captured 5 top Taliban commanders by tricking them into attending peace talks. The top bad guys showed up for the conference and the good guys threw them in jail (sneaky and unfair). Enraged, the Taliban stupidly announced it will never negotiate peace again with either the military or the civilian government. The Army is thus preventing the civilian government from backing away from the offensive, forcing them to have some backbone. This is obviously good news. In Afghanistan, about 16 good guys were killed over the weekend. Frustrated with McChrystal’s policy of refusing to give a bad guy body count, the Afghan government announced that 50 bad guys were also killed. The refusal to give a bad guy body count is damaging American support for the war because it gives the illusion that the Taliban is winning. Overhanging everything is the issue of McChrystal’s troop request. Liberal Democrats are lining up against it and (insanely) floating proposals for withdrawal of existing forces. Conservative Democrats and Republicans are bravely fighting back, supporting the President and the Pentagon. The lengthy delay and linkage to healthcare reform is not good.

Specific Stocks: Siemens (SI) is the best large cap industrial conglomerate, although the weak US dollar helps its rival GE. Baidu (BIDU) is hands down the best search provider in China. With Boeing making positive noise about its dreamliner, titanium has been rallying. Titanium Metals (TIE) is the number one producer of titanium. To be bullish on TIE we must be bullish on the dreamliner, probably a good bet but it requires specialized knowledge and expertise. The dreamliner has not had its first test flight yet.

200 Years of Stock Market History

Geopolitics: For 200 years the stock market has only flourished when an Anglo-Saxon superpower has either a genuine or perceived grip on global hegemony. Either Britain or America has presided over all the secular bull markets over that time period, which encompasses the entire history of the modern stock market and industrial capitalism. At its peak in the 19th Century Britain directly controlled 20-25% of the Earth’s landmass and 100% of the ocean. It could raise huge native armies from its countless colonies and call up advanced modern armies from Australia, Canada, Ireland, New Zealand, and the 2 Boer Republics in South Africa. It ruled the seas so it could put these armies anywhere except the heart of Europe where a host of advanced armies resided cheek-to-jowl. No power could stand against it. And this military colossus loved free markets and capitalism. No wonder stock markets boomed throughout the early and mid-19th Century. But this changed in the early 1870s when Prussia linked itself with several other German states and demolished France in the Franco-Prussian War. Up until that war, France had the strongest single army on Earth. In the blink of an eye dozens of separate little countries that spoke German somehow joined together to form one gigantic country that unexpectedly possessed an army much stronger than any other single standing army in the world. Kaiser Wilhelm became the king of the newly created German superpower and he wanted colonies badly.
1875 was the worst single year in stock market history. The 1870s were as bearish as the 1970s. But as the decade faded investors realized that Kaiser Wilhelm could not stand up to his grandmother, England’s Queen Victoria. A combination of love and fear of the English Queen kept the Kaiser from using his incredible military machine. And besides, Victoria would carefully dole out colonies to Willy when he grew too grumpy and talked of using his new battleships. “Settle down, Willy, I’m giving you Tanzania and if you’re good I’ll give you Namibia.” So the market boomed again.
In 1902 Britain lost a civil war with its two strongest subject nations, The Boer Republics. This Vietnam-like defeat is recorded in history books as a British victory but it was a crushing blow to the empire. At about the same time Queen Victoria died. Over the next two years the Dow Jones was cut in half for fear of an unleashed Germany, one of the worst bear markets ever. The early years of the 20th century were very bearish, much like the 1970s. The markets didn’t truly boom until WW I was over and investors perceived that Britain had beaten Germany and a pro-capitalism superpower would rule forever. Hurray! The charts for the 1920s are like the charts for the 1990s; a huge but fragile bull market. And the two decades reflected the same geopolitical belief, Britain had beaten Germany, America had beaten the USSR, a new mono-polar world will last forever. The beliefs were false and that may be why the bulls were so fragile.
Britain was not a global superpower in the 1920s, it was only an illusion. In 1931 Japan invaded Manchuria, something a superpower would never allow. This is the true start to WW II.
The stock market crash of 1929 was not triggered by a geopolitical event. Fundamentals started the Great Depression and the 30s bear market. But the downturn was given legs by geopolitics, the slow steady formation of a powerful and ultra-aggressive Axis Alliance throughout the 30s hurt investor confidence and that in turn hurt fundamentals. In a way it is impossible to separate fundies and geopolitics at junctures this critical. The 30s bear is similar to the bear market that started in 1999. The 9/11 Al-Qaeda attack didn’t trigger the 1999 bear market but made it longer and more severe.
That takes us up to the start of the Cold War, which we’ve already covered in other news letters. So there it is 200 years of geopolitics trumping fundies.

Team Obama Comes Through

Charts: The S&P 500 closed at 1044, up 1%. It blew up out of the trading channel and is signaling the third rally leg of the bull market. Leadership is good, so far.

Fundamentals: Weekly jobless claims came in better than expected. Continuing claims were better than forecast by a whopping 112,000. The Department of Labor jobs report last week was mixed. The weekly claims info is more forward looking and therefore better, so good news. Also, President Obama’s big speech on healthcare wasn’t as scary as expected. He even talked about modifying malpractice laws, which the market likes.

Geopolitics: Israel says it is building again on the West Bank and East Jerusalem. But it hasn’t started any new projects. Team Obama’s response to Israel’s threat (translated from diplomatic language) was: “No you aren’t building anything, Israel. Don’t screw with me or you will be sorry.” Israel came back with a counter-response that can be translated, “I am too building new settlements, any day now. Just wait and see. You’re not the boss of me, Mr. Superpower.” Weak response Israel. Good job Team Obama.

Specific Stocks: Still on the theme of best in breed. Schweitzer-Maudit International (SWM) is the best maker of cigarette rolling papers, which have exploded in popularity during the recession and weak recovery because people roll their own cigarettes rather than buy pre-made smokes. Cisco (CSCO) sleepy as it is, the networking gear giant is still best in breed.

Muzzle The Media

Charts: The S&P 500 closed at 1033, up .8%. I’ve been saying that resistance is at 1037, but the August intraday high was 1039 so maybe it’s a smidge higher and our trading channel is actually 1018-1039. The mid-point then is 1029 and the index is close to the mid-point. So we are still experiencing healthy consolidation. Within the index industrials beat financials by a small margin, so leadership is good.

Fundamentals: US government bonds have been rallying the past few weeks. This means that bond investors think the economy will weaken or even crash when worldwide government stimulus programs are curtailed. Stocks have been rallying alongside bonds, normally the two move in opposite directions. Stock investors are saying that the global economy will do just fine once stimulus is pulled.
China is grimly and determinedly implementing several different policies that move it away from dependence on the US dollar, even though that decreases the value of its 1.5 trillion dollar stash. This is one of the reasons that the dollar has been falling. We’ll see how far China can go down this path. By weakening the dollar it is causing commodities to soar. And China needs these commodities. China, as America’s banker, is playing a game of chicken with the big spenders on Capitol Hill.

Geopolitics: The war is going better in Pakistan than in Afghanistan. Yesterday a CIA drone killed 10 bad guys and the Paki press immediately informed the nation that there were no civilians among the dead, 100% bad guys killed, don’t worry about it. And while that was going on Paki helicopter gunships killed 24 bad guys, no civilians killed, go to work, shut up, if you say anything it better be reporting suspicious activity to the authorities. Then the Taliban killed 4 children on their way to school and armed villagers attacked and killed the bad guys and even managed to call in an airstrike where Paki jets razed several houses, 100% bad guys killed. This is what happens when the press is on the same side as the Army. It is unlikely that all these airstrikes really only killed bad guys. And it is worth noting that Pakistan is not a true democracy and never has been. The Army holds the ultimate power and considers the civilian government a mere advisor. The most modern and stable Muslim country in the world, Turkey, has a similar structure. With minimal western press scrutiny Iraq is moving in this direction. The US commander of the entire Mid-East (Iraq and Afghanistan), General Petraeus, is a genius at muzzling the press. We need to see that he is working his magic in Afghanistan because as we’ve seen media scrutiny is screwing up the war big time.

Specific Stocks: A sound rule for investing is to buy a company that is best of breed, or truly superior to its competitors. A company like that will often (but not always) have the lion’s share of its market. Caterpillar (CAT) makes better heavy equipment than anybody else. It is coming out with a diesel-electric hybrid bulldozer, nobody else is. Flowserve (FLS) makes better pumps for offshore oil rigs and nuclear power plants than anybody else. Harsco (HSC) is far and away the best steel mill service provider. These are all core holdings for me. On my watch list is Pegasystems (PEGA) the top dog in business process management software. It will automate your business office, replacing people with software programs.

Roubini Is Not A Pinhead

Charts: The S&P 500 closed at 1025, up .9%. The index is once again in the middle of a potential trading channel of 1018 and 1037. It needs to stay in this channel but so far so good. Leadership is good with tech, emerging markets, and industrials stronger than American financials. The charts are bullish for now.

Fundamentals: Today and over the last couple weeks there has been an increase in Merger and Acquisition activity, which is very bullish for stocks and the reason for today’s rally, but M&A activity might give only a temporary boost if it dries up. Gold inched upward and oil soared today on a weak dollar, not economic fundamentals. July consumer credit came in much weaker than expected as consumers put away their plastic and paid cash instead; while August consumer credit was probably better because we had strong same store sales from that month, July's numbers were pretty scary. Soaring oil prices due to excess liquidity and weak consumer spending are two things that Professor Roubini warned could lead to a double-dip recession. While many academics are pinheads, Professor Roubini is not.

Geopolitics: The Afghani Taliban is demanding an international human rights inquiry into the NATO airstrike against two stolen fuel trucks. And, amazingly, the bad guys will likely get their inquiry, which highlights a major challenge with this war. But first here’s what led to the airstrike. Bad guys stole two fuel trucks from a German military base and sped away. All German soldiers are under strict orders to never shoot bad guys unless fired upon and even then a German soldier must first try to escape. Any German soldier that shoots a bad guy (no matter what the circumstances) will probably get in trouble with spineless bureaucrats in Berlin. So the handcuffed German Army called in an American airstrike to kill these bad guys. If the German soldiers did nothing, the Taliban would smack them around like a kitten with a ball of yarn. It is criminal what German civilian leaders have done to the once proud German Army. Much of the blame can be placed on peacenik reporters.
Before the Iraqi surge the Pentagon largely succeeded in muzzling the press. In Iraq the US Army had to often throttle back the Iraqi Army for being too aggressive, a good problem. These conditions need to be recreated in Afghanistan. America needs to get more Anglo-Saxon (Canadian, British, and mostly American) troops plus Afghani troops in country and get hapless German troops out of the way if not out of the country. And more importantly, the press needs to be muzzled. So getting the extra 40,000 American troops is not enough, these other conditions must also be met.

Geopolitics Is Everything

Geopolitics: Sometimes it’s hard to believe that geopolitics is the number one influence on the stock market because the financial press and pinhead academics seldom give geopolitics its proper due. Rather than go through 200 years of stock market history (not enough space here) let’s look at Black Monday, Oct. 19 1987. This was the single worst day in stock market history. In one day the Dow dropped 23%. On that same day world markets dropped even more. Pundits and academics claim that the monster decline was caused entirely by American computerized program trading. But world markets that didn’t rely on program trading fell even more and the downdraft started in Hong Kong, spread to Europe and only then to America. Asian markets started falling that day because two US warships shelled an Iranian oil platform in response to Iran firing missiles into a US flagged commercial vessel, which (wrongly) implied America was declaring war on Iran. Black Monday was a Long War event before Westerners even knew there was such a thing as the Long War. So how did the Long War go over the past week and the weekend?

In Somalia, the capital city of Mogadishu is experiencing a brief respite from heavy fighting. On one side we have the bad guys, Al-Shabab and Hizbul Islam. On the other side are the good guys, the Somali Army, 5000 troops from the African Union, and CIA advisors. The bad guys control over half of the city and are digging in furiously, preparing for a major assault from the good guys. In fighting last week, neighborhoods shifted from one side to the other and back again with massive civilian lives lost. Unlike Afghanistan, when innocents are killed in Somalia there is no superpower complaint desk where a grievance can be filed and compensation claimed. In this war innocents suffer in silence. After getting its clock cleaned for a year, the good guys claim they are ready to seize control of the city and push the bad guys back out into the hills. The African Union (AU) troops are apparently being beefed up and switching from peacekeeper to attacker. Al Shabab is complaining about these moves and hinting that the African countries contributing AU troops will be sorry if they go on the offensive.

In Northwestern China, the Islamic flare-up was worse than I initially reported. Five people have been killed so far. The first flare-up resulted in 200 deaths. Order has been restored for now because Beijing has flooded the Urumqi region with troops and clamped down hard. The top Communist official for the entire province has been sacked after the non-Islamic population demanded his head on a platter. Some lower level security officials have also been fired. This is a very unusual move for Beijing, to give in to protesters and sack one of their own. The firings indicate that Beijing will begin to use rougher and more violent methods to deal with its Muslim insurgency (unpredictable, maybe bullish).

In the North Caucasus region of Russia, police shot and killed 5 suicide bombers who were getting ready to board a train for Moscow where they obviously intended a splashy terrorist attack. This is the first time bad guys from Chechnya have attempted an attack in greater Russia in years. In a separate gun battle, good guys killed 3 bad guys over the weekend. Earlier in the week, 4 good guys were killed and 4 wounded. The violence in Russia’s Islamic insurgency is ratcheting up steadily week by week and it’s hard to see how a third full-scale war can be avoided.

In Northern Yemen, there had been a truce in the mini-war along the Saudi border but fighting broke out again this weekend with the Yemeni Army killing 4 bad guys on Sunday. Evidence of Saudi involvement is becoming more obvious with the Army toting Saudi weapons and brandishing Saudi emblems. Almost certainly there are Saudi advisors among the ranks of the good guys, which is good news because it means the impoverished Yemeni government has a powerful ally besides America.

In Afghanistan, Saturday a bomb hit a German military convoy, wounding 4 soldiers. Two US soldiers and two Canadian soldiers were killed over the weekend. One NATO soldier was killed Friday. The Pentagon still won’t give a bad guy body count. Earlier in the week an American airstrike incinerated two stolen NATO fuel trucks killing about 4 dozen bad guys and about 10 innocent civilians. The airstrike should have been a ground operation but there aren’t enough troops in country. In a ground operation, the civilians would have been able to get away, prisoners would have been captured and intelligence garnered.

In Iraq, 9 people have died recently from two widely separate suicide bombers. This is the least worrisome of all the Islamic hotspots. The Economist ran a big article where it details how Iraq is becoming a police state. An effective Iraqi police state while morally questionable is good for world stock markets. I still think the US can safely move 40,000 troops out of Iraq and into Afghanistan. What would facilitate this move would be the Iraqi government loosening its stupid and counterproductive rules against US troop actions, making the 100,000 troops left behind more effective. There is movement in this direction (bullish).

In Pakistan, the mighty Pakistani Army is back on the offensive. Helicopter gunships Monday killed 33 bad guys, incinerated 6 vehicles, and razed 15 Taliban houses. Pakistan has pulled elite units off the Indian frontier and is going all out again against the bad guys. I am looking for signs that McChrystal is going to get his extra troops and maybe the new offensive in Pakistan is a good sign on this score. Also, two weeks ago the US Army ordered 4000 extra military trucks, presumably they wouldn’t order all these new trucks if they thought they weren’t going to get the extra troops. So I am guardedly optimistic that extra troops are on the way (please, please, please).

Gates Wants More Troops (Bullish).

Charts: The S&P 500 closed at 1016, up 1.3% and close to the trading channel that might signal healthy consolidation (please, please, please). CAF (proxy for the Shanghai index) closed at 32.07, above the 31 support level and above its 200-day moving average, which was briefly violated this week. CAF was up 5% on the week. If CAF had continued to trade below the 200-day line, then a bear market in China would be likely, which could tear apart world indexes. Leadership within the S&P 500 was much better Friday with tech and industrials in the forefront. XLF (financial index) was up today but lagged other sectors; good—It should lag not lead.

Fundamentals: The jobs report was mixed. The August Payroll Survey showed 216,000 jobs lost, better than expected by 14,000, but revisions to the previous two months took away 49,000 jobs. The market is short-sighted and only cares about the headline number. The Household Survey showed that 392,000 jobs were lost and unemployment jumped to 9.7%, both worse than expected.
Retail spending yesterday in Europe and America came in better than expected Thursday. Recent ISM surveys from around the globe are surprising to the upside and the global recession is probably over. Worldwide private sector fundamentals are good but not great. The public sector, especially in America, is very bad.
The US government owned mortgage company, FHA, is massively and stupidly engaging in subprime lending, a self-inflicted wound. Wall Street is beginning to get concerned. The FHA’s loan loss reserves are nearly depleted. It is currently levered worse than Bear Stearns was at the height of the credit crunch and will need a huge taxpayer bailout, which is to say more debt sold to China. Floating even more government debt requires strength in the dollar, which requires America to retain its superpower status and make progress in the Long War. So once again geopolitics is everything.

Geopolitics: China’s Islamic insurgency is flaring up again with street demonstrations, some bloodshed, but no deaths yet. In a way this is good news because China cannot fight global Islamic radicalism, only America can and China must keep buying treasuries to maintain the current world order. This begs the question: Is America getting the job done against the bad guys? Global investors are worried that the answer is no. As uncertainty swirled around General McChrystal’s troop request recently the price of gold skyrocketed and the dollar slumped; indicating that the dollar is losing its safe haven status because of American military weakness. Yesterday Defense Secretary Gates said that he wants more troops in Afghanistan. The price of gold fell in response but the dollar remained weak. The White House will strongly support McChrystal’s call for more troops but getting them won’t be a cakewalk. The troops request and the fate of Obama-Care are inextricably linked. Liberals will be enraged beyond belief if Obama-Care fails and the troop request goes through; completely losing liberal support is more than the White House can stomach. The President will try to jumpstart Obama-Care by offering a less costly version (Obama-Care-Light or OCL) and if that effort gains traction, he will then move ahead on the troop request. Yes, OCL will cause a soaring fiscal deficit to get even worse, which is bad for the stock market, however, it is nothing compared to the savage bear mauling that will follow from losing the Afghan war. This puts us in the odd position of holding our noses and hoping that OCL does well in the polls.
By now DMU readers are scratching their heads and wondering, “Does simply getting the troops request mean that America will win the Afghan war?” Actually that is probably the case. The request going through will be as much a symbolic victory as anything and it will demonstrate the superpower’s commitment to win and stay there for the long haul, bucking up the average Afghani. Western polling companies tell us that something like 4% of the Afghan population support the Taliban. There is not a popular uprising in the country. There is not sectarian violence (Sunni vs. Shiite) either. There is not a civil war. The Afghani Taliban only number about 30,000. It will take 3 years and about 2,000 American combat deaths to win. If the public can accept that, we will win. And what happens in 3 years? We will then have to send troops to Somalia.

Charts And Geopolitics Are Weak

Charts: The S&P 500 closed at 995, down .33%. The broad index faded into the closing bell, which is bearish action. XLF (financial index) is down 5% in four days. The charts are weak and the possibility of a correction looms.

Fundamentals: Friday is the government’s big jobs report. In a normal recession at this point in the cycle investors would be pretty much ignoring jobs news because they expect it to get worse for about a year even as the economy grows. This time it is different because the job losses are so great they might tear the recovery apart unless they show something at least resembling stabilization. Forecasters are calling for unemployment to peak at 10%. If it peaks much higher there will be trouble.

Geopolitics: In Somalia, Ethiopian troops moved into a couple Somali towns along the border between the two countries several days ago and did some good, blasting out bad guys. Yesterday the Ethiopian Army withdrew from the Somali border region, mission accomplished. As soon as the good guys were gone, Al-Shabab launched a new offensive against government forces in Mogadishu (the capital city). Five thousand African Union troops as well as Somali government troops are now battling the bad guys and holding their own. There are hints of CIA involvement in all this action; for instance good guys from certain tribes and religious sects are toting brand new Chinese made AK 47s, where we would expect them to carry old used ones if they weren’t being helped by the CIA. Considering all this you can see why the US Attorney General attacking the CIA is so harmful.
In Pakistan, the Paki Army is back on the offensive, sweeping into bad guy country in a massive show of force. 110 bad guys have surrendered and about 50 have been killed after the bad guy’s string of victories recently that included two attacks on NATO supply lines and killing 15 police cadets. Today the bad guys tried and failed to assassinate the government’s top religious advisor in Islamabad. In Afghanistan, a Taliban suicide bomber killed the Afghani government’s Deputy Chief of Intelligence and 22 other good guys. The Afghani Taliban is flexing its muscles.

Peaceniks Cause Market Meltdown

Charts: The S&P 500 closed at 998. Down a scary 2.2%. The broad index broke through several key support levels and is not in a discernible trading channel. Our only technical hope is for consolidation in a tight trading channel, as I’ve been saying ad nauseam, and that has not happened for more than a few days in a row. We need months of sideways movement for a true bull market to emerge. CAF (our proxy for the Shanghai index) has broken down below the vital level of 31, raising the possibility of a resumption of the bear market in China. AIG was down 20% and Fannie Mae down 18%, highlighting what I was saying last week about low quality leadership.

Fundamentals: Manufacturing data continues to come in stronger than expected. The National ISM survey is now above 50, indicating expansion in overall industrial activity and more evidence that the recession is over. New orders were way up. Yesterday the key Chicago ISM survey tells the same story. The price of oil is way down over the past two days and interest rates are also coming down. Good fundamentals news! The market, however, is responding to bad geopolitical news.

Geopolitics: The Paki Army killed 45 bad guys yesterday, which is a relief because the Taliban had been mopping up the good guys lately. General McChrystal’s big report is out and it doesn’t contain any surprises. We already know that his new strategy is to spend as much energy defending Afghani citizens against bad guys as actually killing bad guys. This new strategy requires lots of troops. And there is not yet any word on his troop request. All we know is that soon he will make his request and it may or may not be granted. Standard counter-insurgency doctrine tells us that there should be 500,000 troops in Afghanistan, not 68,000. Therefore it is a no-brainer that he needs at least 40,000 more troops for a total of 108,000. If he doesn’t get them, then the bear market will resume, it’s as simple as that.