Juggling Dynamite

My friend Aaron Task at Tech Ticker interviewed Bob Prechter of Elliott Wave International yesterday.
We are not Elliott Wavers at our firm. We are always nervous that pattern recognition can get a little subjective at times. But it is interesting that from our trend analysis work we reach some similar conclusions to Prechter about the present secular cycle and the price risk at this point in risk assets around the world. I wish I could feel as confident as Prechter seems to be in saying how far the next correction will fall. Certainty would make this work so much easier.
That said, Prechter's comments are well reasoned and I agree in general with his big picture premise. I think it fair to say that only fools and the reckless would be blindly piled into risk assets here. Or sadly, retail investors and their advisors who don't know any better perhaps. And then there are all those pension funds with pre-historic investment plans that are long always…ouch.

Last week the world seemed intoxicated on high hopes that the global recession was ending. In just one month ended Aug 7, world indices gained 12%. Wow; incredible rally.
Over the past few days though, sobriety appears to be kicking back in. The barometer of world shipping, the Baltic Dry Index, has now fallen 25% over the past 9 days; now back to May levels. The VIX or volatility index has spiked more than 12% since Friday; emerging markets are pulling back and the US dollar and high quality bonds are seeing inflows again.
At present levels, the S&P 500 is pricing in a significant earnings rebound for 2010 and emerging markets have been pricing a hearty resumption of western consumption. Both of these assumptions are seriously in doubt.
Today the Singapore Minister of Trade and Industry threw a blanket again on resurgent decoupling hopes, saying there were “few signs of a decisive turnaround in final demand in Singapore's key export markets.” Without buy-happy western consumers, Asian growth will be much slower than desired.
This time, thanks to the massive credit overhang, rate cuts alone are not able to revive the housing sector. Without the housing catalyst to kick-start and lever renewed consumption, growth has a massive headwind. See the following clip, Housing Mess is not over, for an update on US housing:

I fear that the next few months could astonish those thinking markets have recently hit a “permanent new plateau.”

China is a hot topic again this year with some market commentators postulating that continued growth there will pull the global economy out of this downturn. I wish it were that simple. Contributing about 8% of world GDP, even with expected growth rates of 8% in 2009 and 2010, China can add about .6% to world growth.
In commodities the Chinese government has been buying its brains out; stockpiling supplies for anticipated future demand. This has helped to firm commodity and energy prices over the past few months. The trouble is that demand is so far not apparent, and the inventory of supplies is now to the rafters. Last week in Australia, Nouriel Roubini was warning that commodity prices may now be once again vulnerable to a sharp pull back should Chinese stockpiling take a pause in the fourth quarter. See: Roubini warns China could cause commodity price slide.
Over the past couple of years as global demand for Chinese exports has swooned, the Chinese government has been struggling to maintain growth at home by pumping cash reserves into its banking system. Forced lending has resulted in the typical results: bad loans, bad business and asset bubbles re-flating.
Leading the global surge back to risk appetite the past 4 months has been the Chinese stock market, up now 100% year to date. Remarkably however, it is still more than 80%% below its recent cycle peak in 2007. The trouble with bubbles is they always burst and coming into the fall, the risks of a major sell off in China are mounting. The ramifications for other world markets are ominous.
“The stock market is in a final frenzy again. The most ignorant retail investors are being sucked in by the rising momentum. They again dream of getting rich overnight. As in the past, retail investors usually lose, especially like the ones jumping in now. The final frenzy usually doesn’t last. The turning points in China are often related to political calendar. Retail investors hold the popular belief that the government won’t let the market drop before October 1, the 60th anniversary of the PRC. Last time it was the 17th Party Congress in October 2007. This sort of belief is self-fulfilling in the short term. The market tends to roll over around the time. If the past is of meaningful guidance, this wave will taper off before October.”
See this full article for an on the ground assessment of China's bubbles brewing.
Meanwhile today we learned that the Baltic Dry Index, a measure of shipping costs for commodities, had its worst week since October as Chinese demand for shipments of coal and iron ore slowed.