Before we focus on today’s chart check I would like to shed some light on recent macro development and its impact on asset prices. ECB did went for QE in its own way by loaning 500 billion euro to European banks and pulled them back from the verge of collapsing. This currency printing fueled the rise in the prices of risky assets globally and all risk assets prices rallied by 10% -15%. ECB is committed to continue its monetary expansion and it’s estimated that 1 trillion Euro will be given as 3 years loans to banks by the end of February 2012.
As I previously mentioned that when it comes to asset prices the question to my mind had always been whether ECB will elect for quantitative easing or not. My view was that ECB will continue to resist QE as people may lose faith in Euro due to excessive QE and it may seem that ECB has almost sealed the fate of Euro by electing for QE.
But before we jump to the band wagon and try to contemplate on the fate of euro, I would like to mention that since 1971 we are living in a Fiat monetary world. In today’s world where all central bank are simultaneously engaged in monetary expansion the value of currency may stay stable with respect to each other but they will certainly bound to lose their value with respect to hard assets like commodities, Real estate and to some extent stocks.
What happens to Europe?
I think the current crisis is far from over. By providing liquidity to bank the ECB has certainly stopped the vicious circle forcing banks default or to sell assets at ultra low prices (to pay off maturing loans) which in turn will hit their capital ratios and make them further insolvent. Now banks can borrow as much as they want form ECB at ultra low rate of 1% for three years and invest them in high yield sovereign debt of Italy and Spain to generate risk less profit of 5% at the cost of tax payers who would be paying taxes which will be then paid to bankers. To sum up this entire system it’s the taxpayers who would be paying for extravagance of bankers.
It’s an irony that even Greece won’t be considered as a defaulter even after its bond holders will take a hit of 70%. I think many other countries will follow the footsteps of Greece and will renegotiate their debt at 40- 50 cents to a dollar and it won’t be constructed as a default. Banks will certainly take a hit on their holding but it will be spread over a period of 5 -7 years and ECB will continue to finance them in the mean while by printing Euro. The end result of all this would be higher inflation, low growth, low consumption demand and low employment.
Austerity measures forced on peripheral countries will fail but they will continue to follow it for few more years unless people on the streets rebel. At this point the political system may want continue with austerity measure or will opt out of Euro. I think few countries may be pushed out of Euro but it would be an orderly default.
What happens to US?
In US things have started to move. The growth in EPS for S&P500 stocks has slowed but it will continue to inch upward. The reason for this dichotomy to my understanding is the fact that S&PP500 is heavily weighted towards Industrial sector while US economy is 70% consumption. Therefore even when US domestic economy is not doing good, US stocks are generating record earnings due to their dependence on Non US markets and Non US consumer, edge in IP which enable them to create unique companies like Google, Apple, Amazon, Facebook etc. Therefore I think US is one of the best place to be invested in. I would seek to take espouser in US real estate, both distress and opportunistic and to some extent in US stocks.
What happens to China?
My view on China had not changed since last 3 years and I think Chinese economic growth is unsustainable and it may happen that its economic data is fudged. I think China facing similar circumstances to Japan (1985 – 1989), the only difference between them is that China has a huge population base which is still living at subsistence level while Japan in 1989 was a rich country. Therefore even if china slips into disarray it will not slip into a 20 year depression like Japan. Although I do not have the view that China will continue to grow exponentially at 8% -9% in this decade due to several reasons, but it may still achieve 3% -5% CAGR.
What happens to India?
Developing countries, BRIC countries specially India and china (major importer of commodities) are the worst sufferer of the current economic system. Whenever Developed countries do QE they will push the price of commodities, which will result into high imported inflation in these countries. Central banks will have no option but will be forced to increase interest rates to kill inflation which will in turn kill growth.
I think India’s last decade was a dream decade, but policy mistakes; extravagant social sector sending (corruption) will destroyed India’s chance to be a major economic power by the end of this decade. I don’t expect the government to cut wasteful spending in spite of TV talks given by FM. Today the govt is spending 200,000 crs on social sector spending, 200,000 crs on subsidies, 300,00 crs on interest payment and debt repayment, 150,000 on defense which is almost 90% of total expense. With the view to come back to power I feel that government will only increase the wasteful spending in next few years.
My preferred scenario for India is that we will again slip into 6% growth bracket for this decade and inflation will remain high, interest rates will remain high (as RBI will be forced to keep high interest rate high in absence of fiscal consolidation).
The second scenario will be extremely high inflation, government forcing RBI to keep interest rates low, moderate to high growth 7% -8%. Lose fiscal and monetary policy which will result into catastrophe. Overall, this decade for Europe and rest of the world would look something similar to the decade stagflation of 1970 marked by high commodity prices, falling share price to a point that when adjusted for inflation shares will be 40% - 60% lower than CMP. More people will be pushed below the poverty line
I think the basic case for deflation/depression or a big fall in asset prices is now almost over. Previously I would give it a probability of 65% -70% but now I would only give it a probability of 20%. Unless something catastrophic happens I see the price of risk assets moving upward form here in nominal terms but in real terms price of some risky assets may correct when adjusted for inflation.
Just like it happened with all the past monetary union, Euro will not survive in present form. Either European states will go for a fiscal union or this crisis will force exit of few countries form peripheral Europe.
Some thoughts on Democracy?
I think Democracy is not as good a system as it is made out to be. Most of the politicians avoid painful long term action to increase their chance of coming back to power. They will delay taking pain and will push problems on their successor and the problem continues to grow into a monster. I don’t see an end to this issues but I also admit that we may not have an effective alternative to democratic system. But as Von Mieses wrote that every democracy will ultimately end in bankrupt country and a failure.
Now let us go for some chart check.
The first chart I have posted is weekly chart of S&P500. The current week ended forming a gravestone doji pattern on index. Now if the follow on candle confirms there are reasonable chances of a good correction on S&P in coming weeks. Any short position in S&P should have the stop loss of 1360 – 1365 and target of 1250.
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| S&P500 Weekly chart |
The second chart is weekly chart of DJIA index. DJIA is forming a inverse head and shoulder pattern and the current correction (which I am expecting will take the index to 12000 levels will be an excellent buying opportunity. I think one can go long on DJIA at 12000 levels with a stop of 11500 and a target of 14500 in coming year.
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| Dowjone Weekly chart |
As readers may remember in my last post on 7th January 2012 I mentioned that if nifty moves above 4800 the target for index will be in the range of 5250 to 5300. I was not expecting in any circumstances that market will break above the channel resistance of 5300. Since then Nifty have moved up by 18% and we have seen one of the most prolific bull rally in recent times.
I admit that I under estimated the impact of QE done by ECB in the form of LTOR. 5 billion USD inflow in Indian markets was enough to push index up by 18% The current situation is very similar to September 2010 where FII poured in 7 billion in one month and Nifty moved up from 5500 to 6300 levels only to slide down to 4500 levels in the next year and half due to poor economic data. The only difference between now and then is that the current rally seems to sustain a bit longer.
Although one should wait for markets to cross the time filter of three weeks before coming to a conclusion that Nifty have broken the downward sliding channel, but I think there are sufficient reasons to assume that Nifty will now move up towards the target of 5800 – 6300 levels. The major catalyst for it would be ECB’s 1 trillion QE in the end of February 2012.
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| Nifty weekly chart |
If we look at immediate candle stick pattern we can see that nifty had formed a spinning top. This is a classic reversal signal given that next week’s candle confirms market reversal. My own assessment is that market may correct upto 4900 – 5000 levels in next few weeks which will be a good buying opportunity. One can go long on market at 5000 levels with a stop of 4700 and a target of 5800 – 6300.
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| Nifty Weekly chart |
The curious case of gold continues. As we can see form the given chart that Gold have convincingly broken the down trend it was in since September 2011.
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| Gold weekly Long term chart |
The only trend which has been very clear is the strength in USD is expected to continue. If we look at the given chart we can clearly identify a inverse head and shoulder pattern forming in DXY. I think DXY is likely to move to 88 levels and traders should buy USD against Euro and other major currencies with a stop of 76.50 on DXY.
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| DXY daily chart |
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| INR 60 mintues chart |
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