Monthly Strategy – October 2011

Leading economic indicators are pointing to a recession. At the time being it looks like it could be a mild one, but taken into account all the unknowns (EMU future, China slowdown, bank balance-sheet question) it could easily develop into something more ominous.

Economic Growth

Economic activity in the U.S. has slowed down considerably. All major pieces of economic data have deteriorated, and are now sitting at recently reached depressed levels. It’s hard to expect that during a pause in monetary stimulus and in a time when policy makers are disusing austerity and tax increases we will experience a self-sustained return to pre-crissis growth levels. The odds of additional large scale asset purchases conducted by the FED are high. An unsustainable budget deficit and rising debt level are also problems that are moving into the spotlight and will gain in importance.

Developed Europe way of solving peripheral Europe debt problems is causing only fear in the markets and has put the sole existence of the Euro into question. In absence of a credible fix of Greece debt problems (an orderly default) I can see a massive  crash in the both economy and markets. Additionally, in contrast to U.S, European counties have taken more prudent route and have chosen to moderate their expansive fiscal and monetary policies and this will take it’s toll with lower (than U.S.) economic growth.

Earthquake and tsunami stricken Japan deployed massive monetary stimulus. Rebuilding efforts will need massive financing which will mean more debt issuance. In the short term this will spur growth and revive the economy, but the consequences for the long term (Japan debt burden is already beyond anything labeled normal) could be dire…

We have no decoupling of emerging markets and their growth depends on developed world demand. Emerging markets are clearly two tiered. We have China as a global manufacturing power house and a massive commodity importer and on the other side rest of the Brasil and Russia which are big beneficiaries of China commodity expansion. So it all comes down to China.

China is tightening monetary policy both with rising bank reserve ratios and increasing key interest rate. Economic growth has clearly slowed. Rising interest rate do not bode well with real-estate bubbles, with fixed asset investment based economies, or with any kind of speculation… So, I would be very careful on China.

I think they there is a threat that monetary tightening coupled with slowing export demand will bring the economic growth bellow the threshold needed to keep the ponzi scheme fixed investment based economy running.  The alternative is to return to monetary expansion and suffer high inflation.

To sum up: All kind of headwinds ahead of the global economy. If we have rising commodity prices coupled with expansive monetary policies spurring inflation and anemic economic growth the result is my new mid-term base scenario – stagflation.


I would expect a bounce soon, but still: Everything is skewed to the downside. FED future actions will be a major factor.


I was right on the duration of “extended period formulation”. I expect FED will be successful in keeping the interest rates low for a time being.

It is possible that FED announces a new round of large scale asset purchases.

Further down the road, inflation is a big threat…. Longer term bonds and inflation do not go hand by hand.


Potential inflation is a big generator in commodity investment flows with precious metals being the prime beneficiary.

Energy Commodities

Crude Oil – Libya will soon return to the markets and this will ease pressure on Brent and bring some spare capacity into the market. The slowing economic growth puts pressure on the demand side of the equation. The WTI market behaves very very strange, probably as a result of various manipulative actions by big oil companies, traders and probably even as a result of some U.S. government involvement. Looks heavily oversold, but not jet capitulated. I would start looking for a bottom to start a long position.

U.S. natural gas – the supply/demand balance is bad. The only hope is that redirection of LNG cargoes to Japan will bring the supply down. Storage smaller than expected. Could become interesting this fall…but not jet.

Industrial Commodities

This is the weakest link in the commodity universe. I’m continuously puzzled by aluminium strength.

Copper – one of rare commodities with a deficit on supply side. On the other hand price is pressured by large  (Chinese) stockpiles and financing schemes. Could blow up, but I would rather not short fundamentally sound market.

Agricultural Commodities

Apparently China has started to boost its inventory of agricultural commodities. This means long all the way.

Precious Metals

I am not buying the conspiracy theories surrounding the precious metals complex (especially silver), but I think that no one can refute scarce physical supply.

Gold has corrected a bit and I see this as a excellent buy opportunity. Silver…judging from a Gold/Silver ratio I would say we are close to the short term silver bottom, but a small chance exists we go a little deeper before the market turns.


I think the U.S. dollar is undervalued, I expect further Euro weakness.

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This entry was posted on Tuesday, October 4th, 2011 at 6:44 am and is filed under Monthly Strategy. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.

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