Author: Colin Twiggs

Colin Twiggs is a former investment banker with almost 40 years of experience in financial markets. He founded PVT Capital (AFSL number 546090), which provides income and growth strategies to wholesale clients. Colin also co-founded Incredible Charts and writes the popular Patient Investor newsletter. Using a top-down approach, Colin identifies macro trends in the global economy and then combines fundamental and technical analysis to evaluate opportunities in sectors that stand to benefit. Focusing on interest rates and financial market liquidity as primary drivers of the economic cycle, he warned of the 2008/2009 and 2020 bear markets well ahead of actual events.
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US: Poverty rates

From the US Department of Health & Human Services:

US Poverty Rates

I suspect that most US voters are concerned about poverty (don’t believe everything you are told during an election) but where they differ is on how to address the issue. The view from the left is to raise taxes on the rich in order to increase welfare benefits to the poor. The right believe the solution is to get the economy back on track. That would create more jobs and increase tax revenues — which could enable more welfare spending. It is important to avoid the trap of long-term welfare dependency, but the solution is always going to be a compromise between the two extremes.

If Republicans want to be taken seriously by Black and Hispanic voters they need to pay more than lip service to fighting poverty.

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The Gold-Euro-Dollar conundrum Part II

Last week we discussed conflicting signals from the euro and US dollar. The Dollar Index and the euro are normally plotted inversely to each other.  I have reversed this on the chart below.  As expected, with the euro the largest component (57.6 percent) of the dollar index weighted basket of currencies, there is a strong correlation.  Divergences between the two seldom last as traders “arbitrage” the differences.

The rising Dollar Index is testing resistance at 81.50. Respect of resistance would threaten a head-and-shoulders reversal — with a target of 74* — following a breakout below primary support at 78.50. Falling 63-day Twiggs Momentum, below zero, already suggests a primary down-trend. But recovery above 81.50/82.00 would negate this, indicating another primary advance.

US Dollar Index

* Target calculation: 79 – ( 84 – 79 ) = 74

Spot gold (daily chart) is testing short-term support at $1700 per ounce. Respect of support would reinforce the earlier trendline break, suggesting another test of $1800. But a stronger dollar and failure of support at $1675 would indicate a more severe correction.

Spot Gold

* Target calculation: 1800 + ( 1800 – 1700 ) = 1900

The DJ-UBS Commodity Index (weekly chart) continues to test support at 140. A 63-day Twiggs Momentum trough above zero would indicate a primary up-trend. Recovery above 152 would confirm. A stronger dollar and breach of 140, however, would test primary support at 126.

DJ-UBS Commodity Index

Nymex WTI Light Crude and ICE Brent Crude are both headed for a test of primary support: WTI at $76/$78 per barrel and Brent Crude at $90. The 63-day Twiggs Momentum peak below zero warns of a primary down-trend.

Nymex WTI Light Crude

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S&P 500 correction

The S&P 500 correction continues despite the index finding short-term support at 1350. A rally would test the descending trendline around 1400 but a close below 1350 would signal another down-swing. Reversal of 63-day Twiggs Momentum below zero would indicate a test of primary support at 1275 (the index tends to move in increments of 25).

S&P 500 Index

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Fed monetary policy

I read this excerpt from a speech by Ben Bernanke in September (courtesy of Cullen Roche):

The tools we have involve effecting financial asset prices. Those are the tools of monetary policy. There are a number of different channels. Mortgage rates, other interest rates, corporate bond rates. Also the prices of various assets. For example, the prices of homes. To the extent that the prices of homes begin to rise, consumers will feel wealthier, they’ll begin to feel more disposed to spend. If home prices are rising they may feel more may be more willing to buy home because they think they’ll make a better return on that purchase. So house prices is one vehicle. Stock prices – many people own stocks directly or indirectly. The issue here is whether improving asset prices will make people more willing to spend. One of the main concerns that firms have is that there is not enough demand… if people feel their financial position is better… they’ll be more likely to spend, and that’s going to provide the demand firms need in order to be willing to hire and to invest.

It stopped me in my tracks. Here is why:

  1. The Fed Chairman avoids stating the obvious: there is only one aim of monetary policy: to increase or decrease the amount of debt in the economy. Their tools are designed to encourage people to borrow more — or occasionally less, when the results of their earlier policy materialize.
  2. Raising prices to increase demand? Raising home prices is unlikely to clear inventories of unsold homes or stimulate the construction industry.
  3. What Bernanke is referring to is known as the “wealth effect” — raising asset prices by lowering interest rates stimulates spending. The “wealth illusion” would be a more appropriate name.
  4. Rising asset prices make people more willing to spend. He is 100% correct here. But he fails to mention the resulting asset bubble that follows. Low interest rates and rising prices feed speculation….. which lead to higher prices and more speculation….. which lead to a self-reinforcing spiral.

Economics is not a hard science like engineering or physics, where one can accurately gauge outcomes. It is a soft science, like psychology, and many practitioners with competing theories as to how to treat the patient. With spectacular failure rates. Theory after theory is consigned to the waste basket as we struggle to understand the human condition.

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Obama’s ‘Fairness’ Tax is Political, Not Fiscal

Eward Morrissey of the Fiscal Times points out the way toward resolving the fiscal cliff impasse:

Both parties want to reform the corporate and personal tax systems to eliminate complexity and provide stability and predictability. Rather than aim specifically at revenue, start by realizing the bipartisan goal of tax reform, which will boost investor confidence, and then address the spending that drives the deficits. That will be the only way to have a truly balanced long-term solution and a reliable increase in revenue, one that will keep America on a firm path to solvency…..

via Obama’s ‘Fairness’ Tax is Political, Not Fiscal.

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Back to Basics: A Better Alternative to Basel Capital Rules | Thomas M. Hoenig

FDIC Director Thomas Hoenig calls for a simple capital ratio of Tangible Equity/Tangible Assets instead of the complex measures proposed by Basel III. Using Tier 1 capital measured according to Basel III standards overstates tangible equity capital by about 40 percent and using risk-weighted assets makes capital adequacy ratios even more subjective.

Prior to the founding of the Federal Reserve System in 1913 and the Federal Deposit Insurance Corporation in 1933, bank equity levels were primarily market driven. In this period the U.S. banking industry’s ratio of tangible equity to assets ranged between 13 and 16 percent, regardless of bank size……..

[Basel capital standards] led to a systematic decline in bank capital levels. Between 1999 and 2007, for example, the industry’s tangible equity to tangible asset ratio declined from 5.2 percent to 3.8 percent, and for the 10 largest banking firms it was only 2.8 percent in 2007. More incredible still is the fact that these 10 largest firms’ total risk-based capital ratio remained relatively high at around 11 percent, achieved by shrinking assets using ever more favorable risk weights to adjust the regulatory balance sheet.

via FDIC: Speeches & Testimony – 9/14/2012.

Hat tip to Barry Ritholz.

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The Most Compelling Argument for Equities | Pragmatic Capitalism

Cullen Roche quotes David Rosenberg:

The Fed has also completely altered the relationship between stocks and bonds by nurturing an environment of ever deeper negative real interest rates. Therein lies the rub. The economy and earnings are weak, and getting weaker, but the interest rate used to discount the future earnings stream keeps getting more and more negative, and that in turn raises future profit expectations.

Cullen also refers to the spread between the S&P 500 dividend yield and the 5-year Treasury Note yield which has widened to 170 basis points (1.70%). What he has not considered is the upsurge in share buybacks over the last decade as a tax efficient alternative to dividends — which means the dividend yield is understated. The spread should be even wider.

via PRAGMATIC CAPITALISM – David Rosenberg: The Most Compelling Argument for Equities.

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Larry Elder | Is the US becoming a food stamp nation?

Larry Kudlow interviews Larry Elder: Is there a future for free markets?

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“We are at the point where almost 50 percent of voters can go into that voting booth and pull the lever to vote themselves a raise….”

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Richard Fisher | Politicians need to get their act together

Texas Fed President, Richard Fisher believes fiscal authorities need to get their act together. “There is a limit to what we can do. We can’t have a Buzz Lightyear monetary policy: to infinity and beyond.”

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Fisher’s frustration with Washington is hard to miss:

“We have to completely reboot tax policy. We need to completely reboot spending policy……..This is all about job creation…..We have to build confidence in the business community, who are the job creators. And until we give them some clarity, they are just going to hold back. If we have temporary fixes to the fiscal cliff this just pushes out the envelope of indecision…… Just get the job done. Give the business community and those who employ people — the private sector — a sense of direction and confidence. Right now they know nothing. They don’t know what their taxes are going to be. They don’t know what spending patterns are going to be. They don’t know what the costs of these massive regulatory initiatives are going to be…. No business can plan right now…..”

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Australia: Not fiscal cliff — fiscal flab

Jessica Irvine writes that Australia is faced with an aging population and spiraling health costs, but a free-spending government will leave us unprepared.

Two veteran Budget forecasting groups, Deloitte Access Economics and Macroeconomics, have in recent days delivered their verdict on Mr Swan’s mid-year Budget update: It’s codswallop. The Federal Budget is not in surplus by $1.1 billion this year but in deficit by $4.2 billion, according to Deloitte, and $7 billion, according to Macroeconomics…..

via We're afflicted with the same fiscal flab most governments struggle with | thetelegraph.com.au.

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