The Perfect Recipe…..For Now

We had the oversold technical rally of March.  Then, we had the rally of April where the bottom fishers and bargain hunters came in to give it a try.  May & June brought some skeptics as the rally seemed to fade and many began to question the economic recovery and the rally.  You couldn’t ignore the charts at the time and a cautious stance was warranted.  I believed the doubters would build and take the indices lower (see “Gap Trade” articles).  I was prepared to buy the dip, but the dip wasn’t as big as I expected (only 10%).  July came, earnings seemed good to most (mostly cost cutting), everyone believed in an economic recovery, and up we went.  Here we are in August and we’re starting out with a bang.  What will the rest of the year look like?

When we stand back and look at why the stock market is going up, maybe we’re making it too complicated.  When you take a ton of government spending, you add in low interest rates, a dollar breaking down technically, an economic recovery, and global growth, you get the perfect recipe for higher stock prices and higher commodity prices.  Can it be that simple?  I think it is.  We’ve discussed on Biz Radio the words “Let’s put America back to work” which basically means let’s pump a ton of money in the system and spend our way out of this.  Not the best recipe for the long-term, but it’s like the steroid shot your kid gets when they have RSV.  They perk up immediately.  They’re still stick but they fill a lot better.  That’s our economy.  Now, if the doctor gave my kid a shot everyday, he’d probably have a ton of energy but it would eventually make him even sicker.  That’s our economy.

We can analyze housing prices, cash for clunkers, this bailout and that bailout, this scandal and that scandal, but it’s really about the government not allowing any pain and that means investors are safe to buy assets.  Some have called it the Bernanke put (as in option).  Reflation is the buzz word you’re hearing now.  I get people asking me everyday, “Aren’t they just creating another bubble?”  The answer is “yes” basically.  This is the opposite of the late 1970s and early 1980s.  Inflation was so bad, they had to keep raising interest rates to stop you from borrowing.  But, because you knew the things you were buying were going to cost more in the future, you borrowed more to buy that stuff.  Then, it became so expensive to borrow that money, spending stopped, interest rates peaked, and the recovery began.  That was called tough love.  Toss people out of work, raise interest rates to the moon, and choke off the economy.  Today, it’s the opposite.  Let’s get the economy going by lowering rates to 0%, we don’t want anyone out of work, let’s subsidize everything in site, and when we’re out of money (cash for clunkers), we’ll have Congress approve more (or make more).  The last few months, you were hearing that the Fed is cutting rates and stimulating the economy and it wasn’t working.  It always works.  I told you several weeks ago it was working and now investors are noticing.  Therefore, stock prices are going up.

There will be a price to pay for too much money in the system.  It’s an experiment just like there was an experiment to try and get every American in a home.  You see where that got us.  So, what we can do is allocate our portfolio to take advantage of reflation and prepare for future inflation which isn’t here…..yet.

This post published at www.karleggerss.com

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