When will housing bottom in the U.S.?

The other day I got into a conversation with someone about U.S. house prices.

He was of the opinion that we are near a bottom in house prices and was considering buying something in the next few months.

He asked my opinion and I told him I do not think we are anywhere near a bottom. Here are my reasons why we have a long way to go.


1) Supply

The first chart is the inventory of unsold homes in the U.S. expressed in terms of "months of supply" (click on all charts to enlarge). In other words, if not a single home were built in the U.S. going forward it would take "X" amount of months to bring the supply down to zero.

Using statistical evidence compiled by the National Association of Realtors (NAR), they release their calculation of current supply every month.



Currently there is an 11.4 month supply of existing homes on the market. Historically house prices have not found bottoms until house supply declines to 3 1/2-4 1/2 months supply. We are a long way from that level.


2) Affordability

Over history U.S. house prices have generally tracked in a narrow range relative to median income. In fact, from the 1970's to 2001 the historical ratio between median home prices and median income was between 2.6 and 3.0.

I believe prices will decline to re-establish this ratio. Assuming median income will not increase (in fact, in this recession it should decline), it is possible to guess at the "bottom price".

-As of July the median house price in the U.S. was $210,900 (as reported by the NAR).

-As of July the median income in the U.S. was 60,512 (as reported by the NAR).

-As of July the ratio was 3.485. Under the assumption median income does not increase, house prices would have to decrease as follows:

3.0 ratio (the most optimistic view) = $181,536 (a further fall of 14.0%)
2.6 ratio (the more realistic view) = $ 157,331 (a further fall of 25.4%)

If the recession is long and median incomes declines from present levels (which I fully expect they will) then prices will further decline well below those projected levels before a bottom is reached.


Another second way of looking at affordability is the Composite House Affordability Index:



The Affordability Index is also produced by the NAR. It is calculated as follows:

The NATIONAL ASSOCIATION OF REALTORS® affordability index measures whether or not a typical family could qualify for a mortgage loan on a typical home. A typical home is defined as the national median-priced, existing single-family home as calculated by NAR. The typical family is defined as one earning the median family income as reported by the U.S. Bureau of the Census. The prevailing mortgage interest rate is the effective rate on loans closed on existing homes from the Federal Housing Finance Board and HSH Associates, Butler, N.J. These components are used to determine if the median income family can qualify for a mortgage on a typical home.

To interpret the indices, a value of 100 means that a family with the median income has exactly enough income to qualify for a mortgage on a median-priced home. An index above 100 signifies that family earning the median income has more than enough income to qualify for a mortgage loan on a median-priced home, assuming a 20 percent down payment. For example, a composite HAI of 120.0 means a family earning the median family income has 120% of the income necessary to qualify for a conventional loan covering 80 percent of a median-priced existing single-family home. An increase in the HAI, then, shows that this family is more able to afford the median priced home.

The calculation assumes a down payment of 20 percent of the home price and it assumes a qualifying ratio of 25 percent. That means the monthly P&I payment cannot exceed 25 percent of a the median family monthly income.

The higher the number the more affordable housing is. Previous bottoms occurred when the index reached levels of 138-145. It is currently at 117.7 as of July, 2008. We have a long way to go.


Bottom Line:

House prices in the U.S. still have much further to fall. That is a certainty.

To judge when it might be a good time to buy, watch for the following:

1)Existing monthly inventory falls to 3.5-4.5 months supply, and

2)Affordability reaches a ratio of 2.6-3.0 (median house price to median income) combined with an NAR affordability reading of 138-145.

When these three items are met, you know we are near or at a bottom.



Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Shorting the Market

In light of the recent temporary ban on short selling a number of companies in the U.S., I have had several questions from subscribers on what short selling is all about.

I have used short selling for years to make money when the markets are in a downtrend and falling. To many people it seems "strange" that you can make money while the markets fall but through the use of shorting either stocks or a stock market index you can do so with some success.

The concept of short selling is as follows:

You have 3 players in any market transaction; the buyer, the seller and the broker. This deal will involve me, my broker and someone on the other side of the trade (we'll call him "Mr. Wrong").

-I decide I want to short "XXX" company as I believe it is overvalued and due for a market price decline. The share price of XXX is currently trading at $100/share on the open market.

-I go to my broker and ask him to lend me 100 shares of XXX. He checks his account and determines he does hold shares of XXX within the brokerage firm. He also checks my account to make sure I have enough money in my account to back up those shares.

-He agrees to lend me the shares (if he didn't have the shares in his account but offered to lend them to you anyway, that is known as a naked short sale and is technically illegal although it routinely takes place).

-I take the shares he lent me and put them on offer in the market (my broker collects a commission on the trade).

-Mr. Wrong is looking to buy some shares of XXX because he thinks they are a great company and expects the stock price to increase. He sees my 100 shares on offer for $100/share and buys my 100 shares for a total price of $10,000.

-He collects the shares from me and I collect the $10,000 from him for the shares (in fact, this is technically incorrect as he doesn't really collect the shares; they are electronically transferred into his account and the money is electronically transferred into my account).

Three weeks later XXX has a profit warning and the stock price falls 50%. Mr. Wrong now wants to sell his stock as he does not want to lose any more money. He puts his 100 shares for offer in the market for $50/share.

-I decide XXX has found a bottom so I would like to cover my short position. Through my broker I go into the market and buy Mr. Wrongs 100 shares at $50/share (my broker collects a commission on the trade). I pay Mr. Wrong $5000 and he gives me the shares back.

-I then return the shares I borrowed to my broker.

Net Result:

-Mr. Wrong lost $5000 on the transaction (he bought the shares for $10,000 and sold them for $5000),

-I made $5000 on the transaction (I received $10,000 from Mr. Wrong initially and only had to pay him back $5000), and

-My Broker made a commission on the 2 transactions for acting as the go-between.

This is how you make money shorting the market.


However, the opposite occurs if you end up wrong. If I shorted XXX and instead of going from $100 to $50, it instead goes up to $150/share here is the transaction:

1) I borrowed the shares of XXX from my broker
2) I sold those shares to Mr. Right (I collect $10,000 and he gets the 100 shares)
3) XXX reports a great quarter and the stock price climbs to $150.
4) I decide to cover my short (this is known as a "short squeeze") and Mr. Right decides he wants to sell his shares.
5) I pay Mr. Right $15,000 for his shares, he gives me the 100 shares of XXX back.
6) I give the shares back to the broker.

Net Result:

1) Mr. Right made $5000 on the trade (he paid $10,000 for 100 shares @ $100/share and received $15,000 for the 100 shares @ $150/share).

2) I lost $5000 on the trade (I initially collected $10,000 from Mr. Right but had to pay him back $15,000 to get the shares back) .

3) The broker made 2 commissions on the trades acting as the go-between.


The key is to know when it is right to be short the market and when it is not right. When the market is in a general uptrend (as it was from 2003 to 2007) it is generally quite dangerous to short the market (you are attempting to go against the overall trend). Long trades work best.

When the markets are in an overall downtrend (as they are now), it is quite dangerous to go long the market as the trend is down. Short trades work well.

Case in point is the chart below of the Profunds UltraShort S&P 500. This fund is both a short fund and is geared (leveraged) to provide two times the performance of the underlying S&P 500 Index. In other words, not only does it gain in value as the S&P 500 Index rises in value but it does so at twice the rate at which the SPX falls.

Click on the chart to enlarge:





Since the October high in the market (the dotted blue line is the S&P 500 Index) this fund has returned 48.3% during the time the S&P 500 Index has fallen 23.02%.

This fund (and there are similar funds that cover most of the major stock market indexes) is not for the weak hearted but I use it in my personal account to maximize returns in down trending markets.


Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

ECAM Investment Methodology

As there are a large number of new subscribers to ECAM who are unfamiliar with how I invest within the Provident Fund, I would like to take the opportunity to go over my methodology once again.

The first thing to understand is, over time, equities (stocks) have outperformed other "major" asset classes (bonds and cash) we have access to in the A and B accounts. As such, you want to have a pre-disposition towards investing in equities (given their superior returns) when the time is right.

However, there are times when equities underperform and other asset classes (such as bonds/cash) outperform. The key is to know when it is "right" to be in equities (to maximize your return ON capital) and when it is "right" to be in bonds/cash (to maximize your return OF capital). Technical analysis provides such insight.

My methodology of investing within the Provident Fund is based upon the following basic rules:

1) the Provident Fund is a very narrow, restrictive and limited investment fund. Given the opportunity, I would not hesitate to withdraw both my "A" and "B" account funds and manage them outside the boundaries imposed upon us by the administrators of the fund (and, as such, I would NEVER have funds in the "C" account due to the above restrictions), and

2) given that option 1 above is not possible given the mandate imposed upon us by the company (full withdrawal of the A and B accounts), I make the best of a bad situation by utilizing technical analysis to position the investment capital within the A and B accounts to maximize their limited potential return, and

3) all additional capital I invest I do so in my own personal "C account" outside the bounds of the Emirates provident fund to maximize return.

The bottom line is the Emirates Provident Fund was never designed (nor administered) to maximize your retirement income. It was designed to minimally satisfy the terms and conditions as laid out by the UAE government to comply with the terms of the "end of service benefit". As such, reliance upon the provident fund to provide for retirement is a serious financial mistake. Additional contributions you might make to the "C" fund are similarly doomed.

Based upon the above, here is the methodology I utilize to maximize the limited return potential of the provident fund:

1) A and B account accumulated account balances:

-I utilize technical analysis to move my existing capital between equities, cash and bonds.

2) Ongoing A and B account monthly contributions: (via our mandated 5% compulsory contribution and the companies 12%/15% contribution):

-I contribute 100% of my ongoing A and B account purchases monthly to equities divided as follows:

-Russell Global 90 fund: 40%
-BlackRock/MLIM Equity fund: 30%
-Fidelity International fund: 30%

The rational behind the above purchases is based upon the concept of dollar cost averaging (DCA):

As quoted from Investopedia:

The technique of buying a fixed dollar amount of a particular investment on a regular schedule, regardless of the share price. More shares are purchased when prices are low, and fewer shares are bought when prices are high.

Also referred to as a "constant dollar plan".

Eventually, the average cost per share of the security will become smaller and smaller. Dollar-cost averaging lessens the risk of investing a large amount in a single investment at the wrong time.

For example,you decide to purchase $100 worth of XYZ each month for three months. In January, XYZ is worth $33, so you buy three shares. In February, XYZ is worth $25, so you buy four additional shares this time. Finally, in March, XYZ is worth $20, so you buy five shares. In total, you purchased 12 shares for an average price of approximately $25 each.

In the U.K., it is known as "pound-cost averaging".

While the concept of dollar cost averaging has some detractors, I am a firm believer that using DCA in combination with strategic positioning of total assets utilizing technical analysis will provide superior returns within the limited confines of the Provident Fund.

3) Additional Funds available for investment:

All additional funds I invest in my personal brokerage fund account.


I strongly believe utilizing such a strategy over time will allow maximum return on capital within the Provident Fund A and B accounts.

Stock Market Update 27 September 2008

Welcome to the latest ECAM market update for the week ending Friday, 26 Sept 2008.

I know there are a lot of new subscribers who are now monitoring the site. Welcome to you all.

I started this blog several years ago in an attempt to provide some guidance and education to the pilots at Emirates. It has been well received and hopefully it will be of use to you going forward as we traverse these "interesting" times.

On a personal note, there has been a large volume increase in the number of phone calls I have received over the past several weeks asking for specific individual investment advice.

As I have pointed out previous, I am not currently licensed to act as an Investment Advisor in the UAE (please refer to the disclaimer at the bottom of each blog post) nor do I accept any remuneration for the information I provide on this blog. As such, I will not give specific individual investment advice at this time. Perhaps in the future that might change (given the responses I have received to date) but I do not expect to offer such a service at the present time.

Having said that, if you have a question of a more general nature to do with the markets or investments, please feel free to email me and I will do my best to get back to you.

My email address is:

dwaynemalone1@gmail.com


Now on to the markets.

It has been another incredible week in the markets with a proposed 700 billion dollar bailout plan of Wall Street banks being debated in the U.S. congress. In addition, the single largest bank failure in American history occurred with the collapse of Washington Mutual late this week (as I predicted in a previous blog) and a subsequent takeover by J.P. Morgan Chase.

I suspect the next to come will be Wachovia and it will be interesting to see if anyone steps in to buy up the remains (as J.P. Morgan did with Washington Mutual) or if is taken over by the FDIC (Federal Deposit Insurance Corporation). Should there be a takeover by the FDIC, it will severely strain their balance sheet and a further cash injection by the U.S. government will be necessary. This is in addition to the bailout currently under discussion.

As I said in my last blog, it is times like this where there is very little you can do if you have already not positioned your accounts safely out of equities.

As per the blog, I positioned my accounts as follows:

-July, 2007: 75% equities/25% cash,
-19 Aug, 2007: 50% equities/50% cash,
-09 Jan, 2008: 25% equities/25% bond/50% cash
-16 Jan, 2008: 0% equites/50% bond/50% cash

We will know in the next week or two where this might all end up. Should a strong and effective bailout package be agreed to, you might see a rather substantial stock market rally. If this occurs, I plan on moving into a partial equity position to attempt to capture that move (should it occur). This would be a short term position trade as long term I think we ultimately end up much lower from here (see charts for details).

Should there be no bailout (or a weak, watered down package), you will see a market crash. Should this occur I will remain in cash/bonds and wait for the bottom to buy back into equities.

At this time, it is impossible to predict which will occur but next week should be a pivotal week for both the markets and the U.S. economy.

Now on to the Stock Market.

For those that are new to the blog, I use the Dow Jones World Index as my proxy charting index for trading our provident fund equity funds in the A & B accounts as I have found that it closely mirrors the performance of those international equity funds we are able to hold within the provident fund.

To start with, here are the year-to-date returns (01 Jan 2008 to present) for the funds I hold within the Provident Fund A and B accounts:


Core Holdings (currently approx 91% of portfolio):

Fidelity Australian Dollar Fund: +4.73%

Fidelity Euro Fund: +2.55%

Fidelity International Bond Fund: -4.73%


Ongoing Equity Purchases (currently approx 9% of portfolio):

BlackRock/MLIM Equity: -22.86%

Fidelity International Fund: -23.40%

Russell Global 90 Fund: -22.00%


Representative Charting Index:

Dow Jones World Index: -22.04%


With respect to the charts, here are the latest charts from the long term view down to the short term view (click on all charts to enlarge):


Dow Jones World 6 Year monthly chart:



This chart represents the long term view of the markets. It turned bullish at the close of May, 2003 when the monthly closing price closed above the 12 month moving average (MA12, the blue line). It turned bearish at the end of Jan, 2008 when the monthly closing price closed below the MA12 line signaling a new bear market had begun.

Price has declined to a previous support level of 231.26. Next support below that is at 197.20.

This chart remains BEARISH.


Dow Jones World 10 Year weekly chart:



This is the second long term chart I use in combination with the previous chart to identify long term bull and bear markets.

This chart turned bullish back in Mar, 2003 when the 13 week exponential moving average (EMA 13, the blue line) crossed above the 34 week exponential moving average (EMA 34, the red line) combined with a cross of the MACD above the zero line.

The chart turned bearish the first week of January, 2008 when the reverse occurred (13 EMA crossed below the 34 EMA and the MACD crossed below the zero line) and allowed me to move the last of my equity positions into cash. It has remained in a downtrend ever since.

This chart continues to be BEARISH.


Dow Jones World 4 Year weekly chart:



This chart is essentially a zoomed-in view of the previous chart. I have included it for a specific reason.

While most times Technical Analysis is used to identify trend reversals, there are also specific chart patterns which at times point to future price targets. One of the more reliable patterns is known as a "Head and Shoulders" pattern.

Using this type of pattern, you measure the distance from the top of the head to the neckline. You then take that amount and subtract it from the point where price breaks the neckline to give you a price target.

I have noted on the chart the position of the left shoulder, the head, the right shoulder and 2 possible necklines. As can be seen, the first neckline was broken back in late June, 2008 and is currently in play.

Using the rules of this pattern, the "best case" scenario shows a target price of 201 on the DJW index. That is currently 14% below current levels.

Under the "worst case" scenario, price could rebound from present levels to form an additional right shoulder. Should this occur and a subsequent break of the neckline take place, the target would be 142. This would be a decline of 40% BELOW the neckline and would take us back to the market bottoms of late 2002/early 2003.

This scenario is entirely possible.


Dow Jones World Traditional Point and Figure chart:



This chart provides less "noise" and is more of a medium to long term chart.

It turned bearish in Jan, 2008 when price broke below 292. It reversed to bullish in May, 2008 when price broke above 288. This turned out to be a false signal and the chart turned bearish again when price broke 260.

Based on the structure of the pattern, it is projecting a price target of 156. While these targets should not be used as specific targets, it does tell us that based upon the structure of the chart there is still considerable downside potential to these markets over the medium to long term.

This chart remains BEARISH.


Dow Jones World 1-Box Point and Figure chart:



This point and figure chart is more useful for the short to medium term.

This chart turned bearish in early June, 2008 when price broke 287. It projects a price target of 254 (which we have already exceeded to the downside). This tells us there is a possibility we may have found somewhat of a bottom at these levels.

Along with the daily line chart (next chart), this is one chart I will use to position into a short term long equity position should the market begin to turn back up. This has not happened to date.

This chart remains BEARISH.


Dow Jones World 1 Year daily chart:



The current bearish signal on this chart was triggered based upon the following:

1) price crossing below the 50 day moving average (MA 50), and
2) the -DI line (red line) crosses above 60, and
3) the MACD crossed below the zero line.

The last high was at 241.70. This price is now acting as a resistance level (ceiling). The current 50 day moving average is at 248.99 (and descending rapidly).

It is very possible that if we have a market advance this will occur with a simultaneous price break upwards of the 50 day moving average and the current price resistance. This would probably trigger a reaction in the other indicators and indicate a short term bullish trend. I will be watching for this and, if it occurs, will probably enter a short term long equity position.

As of today this chart remains BEARISH.


As I mentioned previous, there are Head and Shoulder chart patterns not only on the DJW chart but also on some of the more common index charts. I have included them here for your viewing pleasure (click all charts to enlarge):

Dow Jones Industrial Average Index:



S&P 500 Index:



New York Stock Exchange (NYSE) Index:



The point is that there are multiple indexes that show this type of pattern (others as well that I have not included). We appear to be only part way through this mess and the downside potential is huge.


Bottom Line:

-There is no chart that indicates a trend change has occurred in any way, shape or form. We are in the midst of a severe bear market that will probably last at least another year (or perhaps even longer).

-Within this bear market there will be counter-trend rallies. I still expect one going into year end. I will be moving into equities when the short term charts indicate it is safe to do so. I WILL BE DOING THIS ONLY WITH THE INTENTION OF SCALPING A SHORT TERM POSITION TRADE. For those who are still in equities, you might be wise to use those counter-trend rallies to move out of equities and into cash.

-Once we find a real bottom, I feel there is a very real chance we could see YEARS of little-to-no movement in the stock markets. There is previous history of the markets not moving beyond a small trading range following a severe bear market for up to 10 years. I think we may enter such a period.

During such a time, only market timing will allow you to make any sort of capital gains in your Provident Fund account. Buy and hold type investing will not work during such a period.


As of today, my positions remain as follows:

-50% Fidelity International Bond Fund*
-25% Fidelity Australian Dollar Fund*
-25% Fidelity Euro Fund*

*percentages are as per how funds were originally allotted. Due to market fluctuations and ongoing equity monthly purchases these amounts vary several % from that posted (refer to current % holdings as disclosed at the start of the blog).


Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Financial Meltdown

Nuclear Meltdown:

A nuclear meltdown is a term for a severe nuclear reactor accident. This can occur when a nuclear power plant system or component failure causes the reactor core no longer to be properly controlled and cooled to the extent that the sealed nuclear fuel assemblies – which contain the uranium or plutonium and highly radioactive fission products – begin to overheat and melt. A meltdown is considered very serious because of the possibility that the reactor containment will be defeated, thus releasing the core's highly radioactive and toxic elements into the atmosphere and environment. From an engineering perspective, a meltdown is likely to cause serious damage to the reactor, and possibly total destruction.

Several nuclear meltdowns of differing severity have occurred, from localized core damage to complete destruction of the reactor core. In some cases this has required extensive repairs or decommissioning of a nuclear reactor. In the most extreme cases, such as the Chernobyl disaster, deaths have resulted and the near-permanent civilian evacuation of a large area was required.

A nuclear explosion does not result from a nuclear meltdown because, by design, the geometry and composition of the reactor core do not permit the special conditions necessary for a nuclear explosion. However, the conditions that cause a meltdown may cause a non-nuclear explosion. For example, several power excursion accidents have caused coolant to rapidly overpressurize, resulting in a steam explosion.

Welcome to the latest issue of ECAM. No charts today because nothing has changed. We are still in a bear market and I have no equity positions.

I have been watching with alarm the situation unfolding in the U.S. over the past few weeks. The more I see, the more it becomes obvious to me that the U.S. Fed and Treasury realize they have lost control of the financial system. Like a Nuclear Reactor meltdown, they know they have a financial meltdown on their hands and are doing whatever they can to mitigate the problem

I would equate their actions to date as being similar to a Nuclear meltdown where the only course of action is to introduce control rods into the reactor in the hope of bringing it back under control and avoiding a total meltdown (the famed "China Syndrome"). Everything you have seen them do to this point has not been effective and the reactor continues to meltdown. More control rods will be forthcoming.

It has been a historic few weeks with the failures of numerous investment banks, the takeover of Freddie and Fannie, the bankruptcy of AIG, etc. The recent banning of short selling until 02 Oct in 799 companies (expanded yesterday by a further 32 companies) is another "control rod" that has been inserted into the mess. The question is whether that is enough and where we go from here.

In all honesty, there is no one who can give you a reasonable answer as to where this all ends up. It is possible the "control rods" work and the "reactor" (world's economy) will merely be damaged but functional. It is also possible we go into meltdown and, if so, we revisit the 1930's and experience "Great Depression II".

Over the past week we have seen record equity price movements both up and down, record gold movements up and down, record dollar movements up and down, record U.S. treasury movements up and down, etc. The reason for this is because investors around the world are beginning to panic.

During this time of severe distress I think the most important thing is not to panic. Until the markets are given a week to settle down to the latest "control rods" being inserted, trying to position in one direction or the other is meaningless.

There will be a time when the smoke clears and we see what we have left. At that time I will look to position accordingly. Until then I will remain with my current positions and let this settle out.


As of today, my positions remain as follows:

-50% Fidelity International Bond Fund*
-25% Fidelity Australian Dollar Fund*
-25% Fidelity Euro Fund*

*percentages are as per how funds were originally allotted. Due to market fluctuations and ongoing equity monthly purchases these amounts vary 1-2% from that posted.


Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Currency update for week ending 12 September 2008

Is Uncle Buck back?

Welcome to the latest ECAM update. It has been a few weeks since I've been "in the saddle" as I've been on a well appreciated holiday but it feels good to be recharged and back in the thick of things.

As I alluded to in my last stock market update, the past few months have been unprecedented in economic history. What I find odd (in fact, a bit eerie) is that we are right now living through what is potentially one of the most significant events in financial history in the past 100 years and yet 99.9% of the population ("Joe Six-pack") has absolutely no idea what is happening around him. It kind of reminds me of The Matrix and the "blue pill/red pill" thing.

I find it ironic that in 30 years time we could be potentially sitting down with our grand-kids telling them what it was like in the "Great Depression of the 2000's" and yet the majority goes about their business without a clue what is going on around them.

As most of you know who follow the blog, I try to keep it fairly simple here and cut to the chase.

Here are the facts:

1) This downturn began due to lax mortgage lending standards in the U.S. in the period 2005-2006 which allowed millions in lower income brackets to purchase homes they should never have been able to afford.

This in turn allowed those in ongoing higher income brackets to offload their older, smaller homes to purchase larger and more expensive homes (along with additional multiple "flip homes" they never intended to live in but hoped to sell onwards to someone else at a higher price in a very short holding period).

Enticed by ever increasing profits, the entire banking industry in the U.S. (from the smallest regional all the way through to the largest investment banks on Wall Street) perpetuated the fraud living by 2 rules:

a) don't ask; don't tell and collect the fees (write the mortgage irrespective of the borrowers ability to ever actually be able to pay it back and in the process collect the fees), and

b) dump the paper asap and collect the fees (bundle and sell the mortgage on to others before it is revealed the borrower has no ability to pay for the mortgage you just wrote and collect the premium for putting together the "bundled" loan package)

2) This practice was endorsed by the U.S. government as it gave the false sense of prosperity to it's citizens at a time when the U.S. was becoming increasing more and more uncompetitive on the economic world stage due to globalization (the ability to produce goods at a lower cost base in other countries) and an historic level of increasing government spending. The result was a record current account deficit relative to GDP that mirrors many third world countries and a trade deficit that sucked much of the industrial base out of the U.S. and into countries that were more competitive (China, India and other far east countries).

3) Since the late summer of 2006 the U.S. housing market has been in a downturn. The reason is simple....supply and demand. Anyone who took Economics 101 knows that when supply exceeds demand than price will decline. It is that simple and when supply outpaced demand prices began to fall. When this happened those who could not afford the homes they lied to purchase began to stop payments and those with multiple homes bought with the intent to flip were left holding homes they could not sell at a profit. The combination of the low income types going into foreclosure and the mid to higher income types dumping their inventory at a loss just to offload them led to the current downturn.

4) As a result of the housing downturn, those banks and financial institutions with exposure to the mortgage markets have been decimated. Here is the latest numbers from bankimplode.com (click on links to get the individual stats for the bank of your choice):

Lehman Brothers - $67.2B (2)Posted on September 11, 2008 6:45 PM
Washington Mutual - $28.6B (2)Posted on September 9, 2008 10:35 AM
National City - $14.9B (0)Posted on September 4, 2008 8:00 PM
CIBC - $10.7B (0)Posted on August 27, 2008 11:44 AM
Bank of Montreal - $1.2B (0)Posted on August 26, 2008 1:02 PM
Deutsche Bank - $155.1B (1)Posted on August 25, 2008 10:02 PM
Goldman Sachs - $84.2B (3)Posted on August 25, 2008 5:15 PM
JP Morgan Chase - $20.1B (3)Posted on August 25, 2008 2:15 PM
Morgan Stanley - $24B (0)Posted on August 15, 2008 1:38 PM
Bank of America - $51.3B (4)Posted on August 14, 2008 11:16 PM
Wachovia - $50.5B (4)Posted on August 13, 2008 3:05 PM
UBS - $92.5B (2)Posted on August 12, 2008 11:22 AM
Royal Bank of Scotland -$41.7B (2)Posted on August 10, 2008 5:34 PM
Citigroup - $144.5B (7)Posted on August 7, 2008 3:43 PM
BNP Paribas - $3.3B (0)Posted on August 6, 2008 11:01 AM
Commerzbank - $1.06B (1)Posted on August 6, 2008 10:08 AM
Societe Generale - $30.1B (0)Posted on August 5, 2008 10:08 PM
HSBC Bank - $27.7B (0)Posted on August 4, 2008 1:12 PM
Credit Suisse - $94.5 B (0)Posted on August 3, 2008 12:20 PM
HBOS PLC - $19.0 B (0)Posted on July 31, 2008 10:45 PM
Fifth Third Bancorp - $3.6 B (1)Posted on July 22, 2008 5:01 PM
SunTrust - $2.0B (1)Posted on July 22, 2008 3:33 PM
Wells Fargo - $27.4 B (2)Posted on July 16, 2008 12:40 PM
US Bancorp - $2.2B (0)Posted on July 15, 2008 12:13 PM
Royal Bank of Canada - $1.4B (0)Posted on May 29, 2008 6:07 PM
IKB - $14.3 B (0)Posted on May 27, 2008 8:13 PM
Mizuho MFG - $5.4B (0)Posted on May 22, 2008 2:09 PM
Bayern LB - $9.8B (0)Posted on May 19, 2008 7:42 AM
WestLB AG - $4.8B (0)Posted on May 19, 2008 7:35 AM
Natixis - $3.4B (1)Posted on May 19, 2008 7:31 AM
Credit Agricole SA-$13.8B (0)Posted on May 12, 2008 5:18 PM
Mitsubishi Financial Group - $760M (0)Posted on April 23, 2008 12:54 AM
Bank of NY Mellon - $118M (0)Posted on April 9, 2008 11:19 AM
Sovereign Bancorp - $1.580B (0)Posted on April 8, 2008 1:29 PM
DZ BANK AG - $2.1B (0)Posted on March 7, 2008 9:52 PM
HSBC - $26.5B (0)Posted on March 5, 2008 5:25 PM

Close to 500 billion dollars has been written off to date and the final number when this all ends may top 1 Trillion dollars. This is challenging the very existence of some of the oldest and most well respected financial institutions in the U.S.

5) While I have been following this for some time, for most the magnitude of the problem did not register on their radar screens until Bear Stearns failed in March, 2008. That was the first of the "Big 5" on Wall Street to go down and it has been increasing getting worse ever since.

To date here are the major failures (takeovers):

-Bear Stearns
-Indy Mac
-Fannie Mae
-Freddie Mac

To come (in the next week?):

-Lehman Brothers

Next in line:

-Washington Mutual
-Wachovia
-Downey Financial

In line with failure of either of the above 4, the FDIC (Federal Deposit Insurance Corporation) will require recapitalization as they will be out of money themselves.

Next to the trough? The problem spreads to the second tier "semi-financial" institutions:

-AIG

Next in line: the American auto makers. My bet (in order):

1) General Motors (mostly due to GMAC financing)
2) Ford
3) Chrysler

This list does not include what could be over 200 local and regional U.S. banks that go into receivership over the next 2 years.

That just gives you the tip of the iceberg as to what is going on right now. Whew!

Anyway, that is your dose of economic reality for today. On to where I am going with currencies.

There is really only one question and that is what is the direction of our favorite uncle; Uncle Buck (the U.S. dollar).

As I mentioned in my last currency update, the USD has been on a rocket ride north the past month. There are many possible reasons why this is the case but dwelling on which scenario is pointless in my mind as it really does not matter WHY......all I care about is what I should do about it.

As I have pointed out in the past, I like to look at weekly charts to give me some idea of where we are at in the medium-longer term view. As such, I will present these charts 1st before getting down to the shorter term and positioning.


Mid to Longer Term Charts:

First I think it is important to identify what the USD is. We all think we know what it means to have a $1.00 bill in our pocket but what does it mean when we compare it to the rest of the world?

In fact, the U.S. dollar index is a ratio measure of the accepted value of the U.S. dollar in relation to its major trade partners.

This is defined as follows:

The US Dollar Index (USDX) is a number that measures the geometric weighted average of the change in six foreign currency exchange rates against the US Dollar relative to March 1973. Those six currencies with their weightings are the Euro (57.6%), the Japanese Yen (13.6%), the British Pound (11.9%), the Canadian Dollar (9.1%), the Swedish Krona (4.2%) and the Swiss Franc (3.6%).

Clearly the Euro and the Yen can have the greatest influence on the value of this index. It was started in March 1973, soon after the dismantling of the Bretton Woods system. At that time, the world's major trading nations allowed their currencies to float freely against each other and the index measures the dollar's general value relative to this date which is set to 100.00.

A current USD quote of 80.00 means the dollar's value has fallen 20% against these six other currencies since this base period established in March, 1973

Note the U.S dollar index is unique because, as the defacto world’s reserve currency, 6 individual currencies are factored into determining the accepted value of the USD. This is totally different from other currency "pairings" which only involves direct comparison between 2 countries' currencies.

Also I must point out that the 2 largest contributors to the USD index are the Euro and the Yen (totaling 70% of the valuation of the USD index). As such, they must be watched very closely and the others less so.

As I have pointed out previous on the blog, I use the 13 and 34 week exponential moving averages combined with MACD mid-point crossovers to identify major changes in markets. I have pointed these out on each of the currency charts below.

I will let you review the charts before commenting:


US Dollar 3 Year weekly (click on all charts to enlarge):



Canadian Dollar 3 year weekly:



Australian Dollar 3 year weekly:



British Pound 3 year weekly:



Euro 3 year weekly:



Japanese Yen 3 year weekly:



Swiss Franc 3 year weekly:



Gold 3 year weekly:



West Texas Intermediate Crude 3 year weekly:



Clearly it can be seen from the above charts that (with the exception of the Japanese Yen which appears to be making a possible turn around and WTIC which is damn close to a 13/34 and MACD bearish cross) that not only are the world's major currencies falling in relation to the USD but also the defacto quasi-currencies (gold and oil) are also in intermediate to longer term declines. As such, from an intermediate to longer term standpoint I am now bullish USD and bearish every other currency (and also by default commodities including gold and oil) with the exception of the Japanese Yen.

Shorter term it is not quite so obvious. I won't go through all the charts but want to include the biggies:

USD Daily 6 month chart:



As I mentioned on my last currency blog in mid-August, the USD had made a tremendous rise off the bottom @ 71.31 on 15 July. We had seen this sort of move before over the years and I honestly did not expect it would be of such a magnitude. I also expected a short term reversal given the overbought nature of the price climb. This did not happen.

Also under full disclosure, I hedged my long Euro/Australian dollar positions by buying double long USD ETF's on 07 August when the USD index price closed above the 200 day moving average and the resistance @ 73.89. I am holding those long dollar positions to date.

The short term chart finally appears to be turning around. The USD is still overbought and there is no reason to not expect price to decline to either the bottom of the channel (78.40) or to the last area of short term resistance near 77.40.

USD 10 year daily chart:



On this longer term daily chart it is clear the USD got stopped in it's tracks at a previous level of support that became resistance (support level from 2005 @ 80.39; price hit 80.38 and broke south).

It would not be uncommon for price to fall to back test the trend line; in fact that is what ultimately that is what I would expect. From that retest I would expect the overbought condition to be alleviated and a new round of USD buying to begin.

Euro 1 year daily chart:



Still massively oversold and bounced off support @ 138.45. If it can get above 143.14 on this bounce it has a good chance to run back to 148.97. That appears to be the true "line in the sand" as far as the Euro is concerned.

Japanese Yen 1 year daily chart:



Broke below previous support @ 92.23 but has recovered back above. Currently stuck in a range between 92.23 support and the 50 day moving average (92.51) and resistance formed by the 100 (93.69)and 200 day (93.94)moving averages. If it can clear both these levels and the previous local high (94.12).

I think the Yen looks really good on a long play. I will be a buyer in my personal account through those levels.


Bottom Line:

The US dollar appears from all intermediate to longer term charts to have turned a corner and is bullish. There is no doubt there are a 1000 fundamental reasons why that should not be the case but "it is what it is".

Short term the dollar is overbought and due for a pullback. I will be moving out of the Euro and Aussie dollar positions once this short term pullback is complete and the next up leg has begun.

I will also be moving out of the International bond fund due to its unhedged exposure to USD strength (as discussed previous). I will probably do this in line with the short term fall in the dollar.

Ultimately I am still looking at rolling the whole thing over into equities (as discussed previous) in anticipation of a rally into the end of the year but there is no indication at this time that it is safe to do so.

As of today, my positions remain as follows:

-50% Fidelity International Bond Fund*
-25% Fidelity Australian Dollar Fund*
-25% Fidelity Euro Fund*

*percentages are as per how funds were originally allotted. Due to market fluctuations and ongoing equity monthly purchases these amounts vary 1-2% from that posted.


Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Stock Market Update 12 September 2008

Welcome to the latest issue of ECAM.

First I must apologize for not blogging sooner but I was out of the country on holiday the past 3 weeks with no internet access. As such, I was able to do only limited monitoring of the markets and unable to blog.

Since my last post, nothing has changed with respect to the direction of the worlds stock markets. The U.S. is facing a deflationary asset collapse of a magnitude the world has never seen (more on this in my currency update this weekend).

In fact, I recently read that Alan Greenspan commented that he thought this would be a "once or twice in a century" type of market realignment due to the ongoing credit collapse and asset deflation. You have to worry when the guy who set up this whole mess in the first place now ponders whether the consequences might be on par or even worse than the 1930's Great Depression. I think it is something each one of us has to ponder; I hate to use these magic words (as those that have used them in the past 80 years have been proven wrong time and time again) but maybe this time it really is "different".

While there has been tremendous volatility in the equity markets, the direction remains down. Along with this, there have been huge moves in the currency markets as well and I hope to provide some thoughts on that this weekend. Along with that will come a change I will be making in my provident fund holdings.

For those that are new to the blog, I use the Dow Jones World Index as my proxy charting index for trading our provident fund equity funds in the A & B accounts as I have found that it closely mirrors the performance of those international equity funds we are able to hold within the provident fund.

To start with, here are the year-to-date returns (01 Jan 2008 to present) for the funds I hold within the Provident Fund A and B accounts:


Core Holdings (currently approx 91% of portfolio):

Fidelity Australian Dollar Fund: +4.48%

Fidelity Euro Fund: +2.40%

Fidelity International Bond Fund: -4.5%


Ongoing Equity Purchases (currently approx 9% of portfolio):

BlackRock/MLIM Equity: -21.06%

Fidelity International Fund: -23.45%

Russell Global 90 Fund: -19.86%


Representative Charting Index:

Dow Jones World Index: -20.9%


The first chart is the Dow Jones World (DJW) 1 Year Daily Chart (click on all charts to enlarge):



This short term chart switched to bearish in early June when:

-price broke below the 50 day simple moving average, and
-the ADX(14) DI- line (red line) crossed above 60, and
-the MACD confirmed the move by crossing below zero.

To date nothing has changed and this chart is still BEARISH.


Next chart is the DJW Point and Figure (PNF) 1-box chart:




This short term PNF chart turned bearish on a price break below 288 in early June. It projected a price target of 254 (which has been exceeded to the downside) but is still BEARISH.


Next chart is the DJW PNF Traditional Chart:

This is a more medium term chart. As can be seen, the chart last turned bearish in early July on a price break below 264 and currently projects a price target of 180.

This chart remains BEARISH.


Next chart is the DJW 4 year weekly chart:

While I do not use this chart in my buy/sell decisions, I include it to note the descending price channel that has been broken to the downside (very bearish sign).

Price support @ 264.50 has been broken and the next level of support is at 231.26.

This chart remains BEARISH.


Next chart is the DJW 10 Year weekly chart:

Just to refresh everyone's memory (and bring those new to the blog up to speed), this is one of the primary charts I use to monitor the medium to long term view of the markets (in addition to the next chart).

This chart went bearish in late December, 2007 when the 13 week moving exponential moving average (EMA) crossed below the 34 week EMA combined with an MACD cross below zero. This indicated a true bear market had begun.

There has been no change since then and the medium term is still BEARISH.


The last chart is the DJW 6 year monthly chart:



Along with the weekly chart above, this is the second great "long term" indicator I like to use.

This chart went bearish when price closed below the 12 month simple moving average on a monthly closing basis.

Price attempted to move above the 12 MA in May (as shown by the "pin" on the candlestick) but by the close of the month price had again retreated below the MA.

There has been no attempt to regain the 12 MA since and this chart remains BEARISH.


Bottom Line:

There has been no change in any of the charts (including the short term daily and PNF charts).

This continues to be a bear market and the summer rally I was expecting turned out to be so feeble as to not even change the direction of the short term charts. That is a huge sign of weakness.

I continue to expect (hope?) we will see some sort of tradable bottom in the fall with a strong rally into year end. HOWEVER, as much as I would like to see it, there is no way I will be switching into equities until the short term charts indicate it is safe to do so. At this time they do not.

Longer term I must again reiterate that this bear market has the potential to be a show stopper and potentially one of "generational" proportion. I cannot stress how important it is to NOT be in the equity markets at this time as there is the very real possibility we could see an additional 20%+ decline from these levels before all this is sorted out.

Any switch I make into equities in the fall will be with the intent to capture only a short term in-and-out trade. I expect this bear market to continue well into 2009 and significantly lower prices below current levels before all is said and done.

A reminder that return OF capital is key in a bear market, not return ON capital. You want to be in the fight when the odds are on your side and on the sidelines with your money safely in cash in your account when they are not. Right now the odds definately are not in your favor.

As noted earlier, I will be making a change in my provident fund this weekend due to the dramatic shift in the U.S. dollar over the past month (swiching Euro and Aussie dollar into USD). I will post that this weekend.


As of today my positions remain unchanged:

-50% Fidelity International Bond Fund*
-25% Fidelity Australian Dollar Fund*
-25% Fidelity Euro Fund*

*percentages are as per how funds were originally allotted. Due to market fluctuations and ongoing equity monthly purchases these amounts vary 1-2% from that posted.


Legal Disclaimer: The content on this site is provided without any warranty, express or implied. All opinions expressed on this site are those of the author and may contain errors or omissions. NO MATERIAL HERE CONSTITUTES "INVESTMENT ADVICE" NOR IS IT A RECOMMENDATION TO BUY OR SELL ANY FINANICAL INSTRUMENT, INCLUDING BUT NOT LIMITED TO STOCKS, OPTIONS, BONDS OR FUTURES. The author will reveal his current market positions and holdings but actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.