I am still sitting on an account half filled with uninvested cash. The rest is in exchange-traded income securities, split between A rated debt and a few preferreds in citibank and others paying 6-8%. I also have a bit in USCI, because I am intrigued by the unique construction of this commodities fund which stands to gain on broad-based volatility in commodity prices.
Anyway, you have to be wondering if I’m crazy to sit on uninvested dollars during all the headline currency wars and the Fed’s QE announcement. This is mostly money that I pulled out of GLD in case of a pullback when it was at $131 so you can argue that I did so early at the very least – exact timing on these things is impossible – but here’s what I’m thinking:
1. The Fed:
The Fed was hyping its QE program for quite some time, with the market expecting anywhere from $500 billion to $1 trillion to be pumped into long-term bonds. The program that was announced is $600 billion all in US treasuries in the 5-10 year range plus a $300 billion in reinvestment of maturing securities which they were planning anyway. I don’t see why this is such a shocker to the markets, it actually seems a bit more tame than expected. Bringing these rates down when they are at 1.13% for the 5-year and 2.56% for the 10-year shouldn’t accomplish much – besides more dollar devaluation on the currency markets.
Meanwhile, higher commodity costs will pose special risks. In an environment of zero revenue growth and profits growing from cost cutting, higher materials costs could result in a margin squeeze in many industries. The US consumer still makes up 70% of our GDP, and higher food and fuel costs could pose risks in an environment of stagnating wages and high unemployment – especially for consumer discretionary items.
This is very likely to be the last QE push, because 3 of the 10 voting Fed Regional directors are being replaced – 3 who support QE are being replaced by 3 who are set against more QE, and the view is spreading that balance sheet expansion is too much risk for too little potential gain.
2. The technicals (Exerpt from 11-08-10 Rosenberg report):
Moreover, look at the latest Commitment of Traders report at what has happened to the commodity complex.
The speculative long interest in gold has risen since late August to a near-record 253,638 contracts
The speculative longs in oil have doubled to 208,726 contracts;
For copper, the net non-commercial longs has tripled to 25,139 contracts;
Meanwhile, there is a huge net short position in Treasury bonds on the Chicago Board of Trade of 25,240 contracts, and;
The net longs on the euro has swelled on the Mercantile Exchange, to 35,879 contracts.
Lord help us if the U.S. dollar ever embarks on a countertrend rally — everything from credit, to stocks, to volatility, to commodities have become abnormally correlated to the greenback.
Add to this a bull-to-bear ratio near 2 to 1.
3. The political backdrop:
The GOP rally and many states along with the federal government means that further expansion of government spending is unlikely – most states are likely to push through big budget cuts. Unemployment extensions will also be allowed to expire at the end of November, meaning that the ~5 million receiving who have been unemployed between 26 and 99 weeks will be cut off from payments in the month of December. The massive government spending of the past is not necessarily good economic policy, but the results will still be felt when it stops.
4. The Consumer:
The US consumer represents 70% of GDP. Despite the great headline unemployment number of +151k, however, is there really an improvement if the employment-to-population ratio still drops?
And with all the QE, is consumer credit really expanding?
Note that the only real expansion in consumer credit is in the government-run student loan program, which pays for college tuition but doesn’t lead to higher spending.
The WSJ has also led with an article on Wal-Mart cutting prices for the holidays. Nothing about this tells you to expect a strong holiday shopping season.
The unemployment report despite the +151k headline figure, was highly concentrated in certain service sector jobs like waste management rather than broad based, meaning it isn’t necessarily sustainable growth. It also seems strange to get excited when the labor force participation rate dropped from 64.7% to 64.5%, the lowest since 1984.
I realize that there are plenty of reasons to be bullish on gold with the talk of competitive currency devaluations and trade wars, but it is one of the many assets inversely correlated with the dollar and I still see a pullback to some extent as likely. I will likely sit on uninvested cash until February or March of next year. It’s in a Roth IRA so I can’t necessarily throw it in an account that with a yield and even if I could, short-term rates would give me nothing in compensation for losing the flexibility to react to unforeseen events.