The Big Picture

It's probably the last thing anyone wants to hear so soon after news of the 533,000 lost jobs lost month (announced on Friday) -- but if history is a guide, it's only going to get worse from here. Details to follow…

First, the market rallied 240 points on the much worse than forecast numbers Friday morning, and it appears that the Christmas season bear market rally may have a ways to go. Remember, bear market rallies can be incredibly powerful…much more so than even those in a bull market. Technically speaking, and that’s basically what this rally is, the Dow could go all the way back to 10,500 – 10,800 or so and we would still be in a bear market. I highly doubt this will happen, but the possibility remains. After the 1929 crash, the market had a rally so big that it convinced most people that the worse was behind us, only to ultimately see losses that wiped out 90% of the stock market from its 1929 pre-crash high. The point being, don’t let a bear market rally fool you…regardless of how high this short term move carries us, much lower prices are still to come. Again, more on this later…

President Elect Obama brings with him a great deal of optimism, but it must be at the chagrin of those that got him elected. He has abandoned his campaign pledge to raise taxes and his economic team and cabinet appointments have been on the ultra conservative side. Every time I see him giving a press conference on TV (which is about every day) I get a chuckle out of the sign on his podium….”Office of the President Elect”…it looks like something that Kinko’s did as a rush job. No doubt about it though, the markets like him. When he speaks, the market goes up…it’s been one of the most reliable trades since the election. The only trade that is more reliable is when Bush, Bernanke, or Paulson speak, which generates a nearly guaranteed 200 point drop in about an hour. For those that enjoy shorting the market (in other words, those that have enjoyed making lots and lots of money over the last 5-6 months) you almost pray for a day when all three of these pinheads speak on the same day. A 500 point drop is just around the corner. Knut Rockne they are not.

Why This is Only a Bear Market Rally

The job losses from November are just the beginning. But don’t take my word for it. Here are the facts from Portfolio Magazine: The majority of job losses in the 11 previous recessions came in the second half of the recession. We're 11 full months into the current one and most forecasters think the recession will last through the end of next year.

Let's assume that's somewhere near the truth. Out of all the jobs that were lost during the average recession since 1945, 26 percent of them came in the first half and 74 percent in the second half. There've been 1.9 million jobs lost thus far in the current downturn, so the historical average would mean we could lose another 5.7 million jobs, for a total of 7.6 million by the end. That would be the most jobs lost during a post-Great Depression recession. I continue to forecast that before this recession/depression is over that unemployment will easily reach 15%, not close to the 25% unemployment of the 1930’s but unfortunately not at all far enough from it.

The chart below shows why we are in for a long painful recovery, and why everyone reading this should prepare themselves, their family and their business for the reality that will be 2009-10.

In past recessions we have had a savings rate of 10% plus to buffer the economy and household balance sheets. Because we have now had a negative savings rate for well over a year, with household debt of 127% to disposable income, there is simply nowhere to turn for much needed cash. An important reason why the American economy has been so resilient and recessions so mild since 1982 is the energy of consumers. Their spending has been remarkably stable, not only because drops in employment and income have been less severe than of old, but also because they have been willing and able to borrow. The long rise in asset prices—first of stocks, then of houses—raised consumers’ net worth and made saving seem less necessary. And borrowing became easier, thanks to financial innovation and lenders’ relaxed underwriting, which was itself based on the supposedly reliable collateral of ever-more-valuable houses. This is what has the FED so concerned this time. No matter how much money they drop from helicopters, the money is not making it to the end-user…the consumer. The banks getting all of theses obscene amounts heaped on them are simply not lending, and as I’ve been reporting, credit card co’s are now reducing and even cancelling outstanding lines of credit. Credit card debt was the last thing supporting the average consumer, and this too is about to pass.

Remember folks, this very scary process is just getting underway…this is the deleveraging process that must follow the credit bubble we’ve just now saying adios to, and I expect it to last a minimum of 12-18 months longer. In a consumer based economy (which is 70- 80% of our domestic growth), rather than a manufacturing based one, our economy MUST continue to shrink until the consumer returns to support it.

The Stock Market -Bottom Line

Anyone that feels there is a long term bottom in place is either one of the 30% taking anti-depressants of one kind or another, or is spending too much time watching the talking heads on CNBC. At least 80% of the so-called gurus they have on as guests continue to look for every opportunity to call a market bottom…don’t believe them. As I wrote over a month ago, I continue to look for a class action lawsuit against CNBC and their efforts to pump the market higher artificially. Seriously, their attorneys must be telling them the same thing is on the way. Anyone that’s listening to these gurus’s does so at great risk to their financial health. If you’re looking for some proof, just take a look at the losses these same experts have the full year…almost all of these “portfolio managers” have losses of greater than 50% for 2008. That’s some kind of portfolio management, huh. With friends like this…

Having said all of this, there is still a fairly good probability of an Obama/Christmas bear market rally continuing our way. Only those with a strong heart may want to attempt to trade this kind of rally, but at the same time a 1000 point move higher in the Dow is possible. Hey, whenever a stock market can rally a total of over 500 points on the kind of unemployment numbers we got on Friday, anything is possible.

Very Favorable Seasonal Period

Yale Hirsch, who I had the great pleasure of dining with at New York’s Tavern on the Green some 15 years ago, is the founder of Smart Money and the Stock Traders Almanac. He noticed many years ago that virtually all the stock gains since 1950 came in the November 1^st to April 30^th period of the year. Starting with $10,000 in 1950, the November 1^st to April 30^th period produced a profit of $489,933 in the 55 year period starting November 1^st 1950 and ending April 30^th 2004. In comparison, the period from May 1^st to October 31^st produced a LOSS of $502 over the same 55 year period. This seasonality of the market is very hard to ignore. It’s also no accident that the majority of these gains came at a time when Congress was primarily NOT in session.

Commodities: Energy - Gold – Silver Update

Finally, all commodities continue to forecast deflation rather than inflation. Merrill

Lynch (MER) is now looking for oil to hit $25/barrel before it’s all over and they may well be right, however I think a $40 floor is more likely. I have a new oil recommendation on the way, but it’s a bit early to make it public. Stay tuned however, because once the US dollar resumes its bear market, energy prices will reverse course quickly….even in the slowest of economies (remember, oil is priced in US dollars, so it must move higher as the dollar goes lower).

The same strategy applies to gold and silver, but for now it appears that the trend will continue lower. Robert Prechter, of the famed Elliott Wave Theory, has been forecasting a long-term deflationary environment for some time, and to date has been far more right than wrong. Of course, he’s also looking for the Dow to drop to 400 before this is all over. And some of you have called me too bearish….

Kip Herriage

Editor, VRA

www.vraletter.com

www.kipherriage