Download Brava Stephanie Pomboy!

May 30, 2014
Brava Stephanie Pomboy!
Barron’s May 26 features a brilliant interview with Stephanie Pomboy - the economist,
founder of New York’s MacroMavens. I have admired Stephanie’s impeccable logic in
Barron’s introduced in Alan Abelson’s former column Up and Down Wall Street.
“I liken the economy to a car on a flat road that has no momentum. When you take your
foot off the gas, the car just stops moving. That’s essentially what the Fed is doing”
-Stephanie Pomboy
To sharpen your investment acumen, I suggest you assimilate her insights. Even for
those fortunate to have a facility with Elliott, Stephanie’s fundamental insights add a
third dimension to our Elliott charts, so that you can explain the fundamentals to others.
Only when you’re able to elucidate something to others do you begin to really
understand it.
Stephanie’s conclusion: The economy cannot withstand the taper, unless Fed reverses
(the gradual decrease monthly T-bond purchases), both the economy & the Market will
falter.
Symptoms of QE: Spending much more to maintain lifestyle
As Pomboy points out, the impact of quantitative easing has been highly
underestimated, and therefore the consequences of the taper are far greater than
currently estimated. She makes her point with hard evidence: of the $25 trillion
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household net-worth amassed since March 2009, financial assets accounted for $21
trillion (84%), and real estate accounts for just $3 trillion (12%).
Consumer Spending not responding
Rather than stimulating a commensurate increase in consumer spending, which
accounts for 70% of GDP, consumer spending continues to decelerate. What’s more,
anemic spending increases result from higher prices, rather than increased demand or
higher unit sales. According to Pomboy, 90% of the post crisis spending increase is
directly related to inflation. Rather intent on upgrading their lifestyles to consume
more, people are simply spending more to maintain the same living standards.
Stephanie further points-out distorted employment data, which implies job creation,
rather than under-employed workers, holding multiple part-time jobs, out of
necessity.
Limitations of worshiping at the Fundamental Altar
Although Stephanie admits having missing the run-up in risk assets against a backdrop
of weakening growth, she points to her unwavering faith in the Fundamentals, which
must be eventually vindicated. 1
Interest rates: the cost of money, must rise to compensate for the taper
By presenting the raw data, Pomboy lets us arrive at your own conclusions. The US
Government’s $40bn monthly deficit spending is no longer being subsidized by foreign
Treasury purchases. Flows of foreign capital into US Treasuries have been dramatically
cut-back from $24bn per month three years ago, to the current $8bn. If the taper
continues to reduce the T-bond purchases at $10bn per month, the current demand
deficit of $32bn per month can only widen. Our interpretation, consistent with a
reconciliation of the Elliott bond & stock charts: the taper’s resulting reduction in TBonds purchases, compounded by waning foreign demand will collapse Bond prices
below the January lows.
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Below the inverse relationship between Stocks & Bonds - Risk-on; Risk-off
Groupthink; linear in either direction
Pomboy assurances, that there’s no material long-term upside risk to Treasury yields,
epitomizes the Bull Market Groupthink. In a Bear Market, there’s a definite edge to
trading an accurate Elliott forecast, & incremental profit to be made from frequent
intermediate-term swings of the market pendulum. From January’s near universal
conviction that interest rates could go nowhere but up, now that rates plummeted, the
consensus expects rates to continue dropping.
However, rather than the capital-gain bargains T-Bonds were in January, (year-to-date,
long Bonds are tied for 1st place performance with bond-like utilities, among all asset classes)
Bonds have swung to the opposite extreme, becoming highly overvalued & overbought,
which makes them relatively risky and prone to losses.
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In the a-b-c corrective diagram above, bond prices are peaking at wave a. In the next
swing of the pendulum from risk-off to risk-on, a sucker’s rally in stocks will see bonds
dumped for higher returns perceived in stocks. From here, bonds will drop to trough in
wave b, concurrent with a corresponding waves a & c peaks in stocks.
Before bounce completes risk-on/risk-off will likely reverse twice …The Diag II is a
prelude to, and an integral part of wave 1, omnidirectionally at all degrees of trend.
Finally, as stocks go into free-fall, panic will drive money flow back into safe haven
bonds. Bond prices should Spike, likely exceeding twice the current 13% premium, as
10-year yield drops to 1.8%, and the coupon on 30-year long bond plummets to 2.4%.
Primitive Herding persists
Human herding instincts closely resemble those of the Wildebeest, who’s stampede
erratically shifts direction, depending on gusts of wind which carry predators’ scent. To
close-in on an ambush, Lions create the panic, resulting in the herd scattering, leaving
the young and weak vulnerable to serve as lions’ feast.
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Reversing positions optimally to maximize profit
In Stocks vs Bonds diagram above, the sum of a, b & c price trajectories compound
returns faster than any other strategy. This requires two reversals which few can
maneuver. “Holding” results in giving back at least 2/3 of the wave-a profit at b, in
order to capture wave c. Most linearly projecting investors will not know to get out at c,
and end up yet again, giving back the profit.
In the TLT bond chart below, the ending Spike from the Diag > is highlighted in green. A
“head fake”, like the rise in bond prices since January is nearly always reversed at least
once. Contrary to Wall Street pedestrian wisdom, “trees do occasionally grow to the sky,
but only after bending all the way back to create a catapult effect”. Catching the high is
just as tricky, although the high will likely reach 125, we will likely begin scaling-out at
120.
Fundamentals & Technicals concur in a high degree of certainty
In the May 24th Market Letter I presented a different perspective: that rising stock prices
would result in Treasuries being dumped for greener pastures in equities. Stephanie
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Pomboy’s T-bond demand deficit resulting from the Fed’s taper concurs via a
fundamental logic. When the Fundamentals & Technicals independently arrive at the
same conclusion, the agreed end-result becomes most likely, adding a high degree of
certainty.
Although I heartily agree with most of Pomboy’s interpretations, in my opinion she
remains far too idealistic. Just as the tides can never be reversed, and night follows day,
there’s no preventing the Bust on the same scale as the previous Boom. The longest Bull
Market in History requires a colossal Market free-fall coinciding with an acute
deflationary spiral.
Only economic incentives aligned with Human Nature succeed
Stimulus, like all incentives, only works when it magnifies the innate, Human Nature &
the profit-motive. Corporate Insiders invest collectively in productivity-enhancing plant &
equipment, when they can sense the payoff. Only when the consensus of insider
buying concurs in economic expansion with its own money, by buying dollar sums of
30:1 and 40:1 versus sales of company stock, does the collective corporate intelligence
confirm economic expansion.
Meanwhile, reckless attempts to “improve” Human
Nature, whether sourced in the Utopian ideals of Karl Marxist, or John Maynard Keynes
can never work – Human Nature is incorrigible.
In a Bear Market, simulative incentives are highly incongruent with essential Human
Nature & its fundamental profit motive. Such unprecedented, forced attempts to
manipulate the Boom/Bust Cycle have merely “kicked the Depression down the road” at
an enormous cost. Interest on the deficit, resulting from Fiscal Stimulus continues to
compound the National Debt far faster than GDP growth. When insider sales have
consistently outnumbered buys at 30:1 for 18-24 months, and gone as high as 60:1,
stimulatory incentives are megalomaniac delusions. Like Greenspan & Bernanke,
before her, Empress Yellen has no clothes! Stimulus is an irresponsible misallocation of
precious resources, which merely postpone rather than reverse the inevitable Bust, at
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a huge cost to society, while magnifying the misery and duration of the inevitable
Depression.
Monetary stimulus debases the currency, along with all dollar denominated assets, (this
is precisely why Commodities will have one more Bear Market Rally) lowering living
standards for generations. Regardless Fed action, we are confronted with a Bear
Market Plunge in 2014.
Footnotes
1Fundamentals
are arguably far less valuable for timing trades to the swing of the
market pendulum; to optimally compound returns, we lock-in profits with each swing of
the pendulum, to capture a far greater price trajectory as compounding profit, the
alternative presumes a smooth, gradually climbing Bull Market. Bear Market are instead
characterized by highly magnified roughness, precisely the opposite, often gives back
the entire profit several times.
The diagram below demonstrates the much higher returns of accumulating profit from
the entire trajectory: a+b+c rather than a-b+c .
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