DummySpots.com

If deflation caused by the credit market collapse overtakes the easing Fed and the falling dollar (leading us into a painful recession), we’ll hear about it from CNBC and FoxNews about nine months too late. Is there any way for the astute individual (who knows what shows up in the “news” is always past-tense) to spot the breakdown as it’s happening?

There is- watch the commodities, they react first.

Keep an eye on the charts of Oil and Gold for a top, see the dollar find a bottom against… everything, and when you’re comfortable we’ve rolled over into the spiral, plan your trades accordingly. What worked brilliantly the last year or so may suddenly stop working, and you’ll find your trades hitting stops instead of profit targets.

That will mean it’s time to get out the old playbook and mix things up, because we’ll be on the field with an entirely different opponent.

Related Links

• Refinancing Subprime Loans to Prevent Debt-Deflation
• Dollar Stronger against the Euro?
• The Fed Should Not Be The Hedge Funds’ Insurance Agency
• Speaking of Deflation…

Deflation could do it. Although the revision of the numbers from one (August) employment report ruled out any possibility of a recession, much less a deflationary recession, right? Right?

How about debt deflation? It’s coming, only question is whether the Fed has the power to stop it. In some circumstances, they don’t, just as Japan hasn’t for… what, 20 or so years. A deflationary contraction could conceivably outrun the Fed’s inflationary power, if it were severe enough.

Or maybe not. Hell, I grew up hunting rabbits and driving tractors, for Chrissakes. I’m still pissed that Case bought IH.

Here’s the chart:

(click for larger image)

That’s a very Wolfe Wave -looking pattern to me. An ascending wedge for over 18 months, now a spike out of the wedge, a near-term bottom which touched the top trendline, and a retrace.

A break below $1.40/Euro would look like the start of a thrust, no? Could we see the low 1.30s in short order?

Let me put it this way: Think of every single thing you’ve heard or read about the dollar, gold, oil, etc recently. What percentage of people and articles are forecasting

• A stronger dollar?

• Falling gold prices?

• Falling oil prices?

• Falling stock prices?

Ten percent? Five percent? One percent? How many guests on CNBC are saying, “Oh yeah, Maria, $60 oil and $500 gold on the horizon”? Limit as x goes to zero?

Now, with virtually everyone on earth on the same side of the boat, what does your trading experience tell you would bring Mr. Market the greatest gleeful pleasure, evil sadist that he is?

Think about it.

Alan Greenspan made an appearance on The Daily Show to plug his new book, but instead of the shallow, softball exchange he may have been expecting, Jon Stewart knocked him back on his heels with one of the most insightful interviews I’ve ever heard.

They covered the myth of the Free Market, the Gold Standard, the Fed’s role in controlling the quantity of fiat money, inflation, irrational exuberance… all in the span of about 5 minutes and all in a comedic context.

The coup de gras is when Greenspan admits that even with all the complex mathematical models, neither he nor anyone else is any better at forecasting now than they were 50 years ago!

Pure Brilliance. This interview should be mandatory viewing for any student of FOMC operations and monetary history, and I think libertarians and many Ron Paul supporters will particularly enjoy it.

You can (and should) view the entire video at the Comedy Central Daily Show website. Here’s a sample of some of the exchanges:

Heads-up to a developing situation:

Credit is crunching again, and banks are having liquidity problems- the Fed did $31.25 billion in Repurchase Agreements today. That sounded like a lot, so I went to the Federal Reserve Bank of New York website and copied the daily figures into Excel from August 1 thru today. Here’s what a quick chart of those figures shows:

Clearly something is up. Another point of interest- of the $31 billion in repos today, the Fed accepted $4.1 billion in the infamous mortgage-backed securities. Contrast that to August 10th, when they accepted that moldy paper for all $38 billion worth of repos.

So, the banks are in a temporary liquidity crisis, but it’s not because the MBS market is locked up and no one will buy the moldy paper. That doesn’t sound good…

Now for the next bit of chartage. The market is suddenly expecting a large amount of permanent money to be added to the system. This is reflected in the spike in the price of gold and the drop of the dollar against the euro. Here’s gold:

Credit Crisis anew. Permanent money. Sounds like only one answer to me: a cut in the Funds Rate. I had already publicly said that I felt the Fed would try to wait until the 9/18 meeting to cut, so as not to spook anyone. Today’s data leads me to believe they may not be able to wait that long.

Cheers.

We got our buy signal, and we got long. In the previous post I’d said

I see Thursday 8/16/07 as a PRIME, and possibly the LAST, opportunity for a buy signal to emerge before we have to look away

and I also said

I will get long very aggressively on any good OGRe (Opening Gap Reversal) once it trades back into today’s range.

This OGRe wasn’t a pretty one, however. (For a more thorough discussion of how I view OGRes, see this post about Trading Opening Gap Reversals). We got our gap down, but then spent the day alternating between ecstasy and agony with those wide swings… until 3pm EST, that is. Then we got that outrageous “4 dollars straight up in 50 minutes on huge volume” rally right at the end:

The daily chart looks more like a nice clean OGRe since it doesn’t show those intraday vascillations:

Note that, per the Gospel According to Steve Nison (aka Japanese Candlestick Charting Techniques) it’s not a hammer since the lower shadow isn’t at least twice the length of the real body. However, the real body on this monster is $2.31 wide, and the lower shadow is another $2.79 below that, which is still jaw-dropping.

Long, But Not For Long

This trade, like most I’ve written about the last few months, is based on my current RSI(4) -based methodology. These trades typically last from a few days up to about three weeks, with the majority on the “few days” end. So this is still a quick little swing trade in my book, not a pronouncement that we’re headed back for all-time highs.

So Was This The Bottom?

I don’t think so. The macroeconomic factors haven’t resolved in the least. In fact, I’ve continually made fun of the talking heads’ using euphemistic language like “housing slowdown,” “slump” and the ubiquitous “soft landing” … we’re not even close to the last shoe dropping on the housing bubble (can we all agree on that term now?). I firmly believe there’s a Dragon in the Corner and that we’re about to enter the recession portended by the yield curve inversion starting in December 2005 (remember, the recession often takes 18-24 months to show up, but of course the choir has endlessly sang “This Time Is Different”).

Note the deflationary symptoms rapidly emerging: tight credit, reduced money velocity, and hey bugs… check your gold prices– who says gold goes up because people buy it when they’re scared? People are scared as hell right now, but gold is faltering because of the risk of big “D”. Oil’s down, too, thanks to the stronger dollar. And yes, I believe the Fed’s response will be to lower the target Funds Rate soon and start increasing money supply vigorously, but in this case, I’d agree that it’s about their only choice since we’re so far down the Rabbit Hole.

Also, I’ve extensively (exhaustively, painfully) backtested the RSI(4) method I currently use, and it’s told me something: in uptrends, it tends to cycle from the high 20s to the mid 80s, sometimes spiking into the 90s (i.e. skewed upwards overall). In downtrends, on the other hand, it tends to drift up into the 70s, then soar down into the low teens or even lower. The last few cycles, it’s been acting less and less like these are “pullback in an uptrend” swings, and more like full-fledged downtrend thrusts. I may be switching from buying drops to shorting rallies in the very near future.

So You’re Overtly Negative, But You’re Aggressively Long Right Now…

Precisely!