Short Takes

Monday’s S&P 500 high was 1,330. To get a bearish weekly 9 “perfected” setup next week, we need to see the market move above 1,333.47 at some point.

If and when Greece gets the next round of bailout money, it will still be on shaky ground. Excerpts from Bloomberg (2-3-12):

The rescue plan, which European officials and Greek creditors say may be wrapped up in coming days, includes a loss of more than 70 percent for bondholders in a voluntary exchange and loans likely to exceed the 130 billion euros ($171 billion) now on the table. That won’t stanch the bleeding, say economists including Holger Schmieding of Berenberg Bank in London. Greece will be saddled with too much debt, too little growth and too large a budget hole to do without even more money that euro nations led by Germany are increasingly reluctant to offer, they say.

“Greece is in deep trouble,” Schmieding said in a Jan. 30 report. “The current Greek adjustment program is failing. Excessive austerity, a lack of supply-side reforms, administrative incompetence and political deadlock have pushed the Greek economy into an apparent death spiral. More of the same will not work.”

An agreement could be reached “in the coming weeks, maybe days,” said Ackermann, also chairman of the Institute of International Finance. The group, based in Washington, has more than 450 financial firms as members and is representing private creditors in the talks.

“We can’t pay into a bottomless pit,” German Finance Minister Wolfgang Schaeuble said yesterday. “Greece needs a new program, there’s no question about that, but Greece must create the conditions for it.”

Greece will default on its debt and is likely to leave the euro, Nobel economics laureate Paul Krugman said yesterday at a conference in Moscow. “The Greek situation is essentially impossible,” Krugman said. “They will default on their debt. In fact they already have. The question is whether they will also leave the euro, which I think at this point is more likely than not.”

Let’s assume Greece and its private creditors reach a “deal”. That deal is far from the final hurdle to preventing a Greek default. According to the Wall Street Journal:

A deal could pave the way for a second bailout package for Greece. However, there have been fresh warnings from euro-zone governments that Greece must improve the implementation of its austerity measures in order to get further assistance. Mr. Rehn has said the euro zone, the European Central Bank and International Monetary Fund may need to inject additional money for a second Greek bailout.

Once a Greek deal is done, an assessment of whether Greece’s debt is sustainable will follow. After that, its official creditors—other euro-zone countries and the IMF—will decide how much money is needed to fill Greece’s remaining financing needs.

The question then is how many of the €200 billion in Greek bonds will be tendered by private bondholders. If too many hold out, then the debt-sustainability sums won’t add up. Greece has said it could then move to force unwilling creditors to accept the bond exchange, transforming the deal from one that could be called voluntary to a coercive default.

Germany also appears to be adding one more significant hurdle according to the BBC:

A leaked plan from the German government proposes a eurozone “budget commissioner” to take control of Greece’s tax and spending, reports say. The Financial Times, which has a copy of the plan, calls it an “extraordinary extension” of EU control. Greek Education Minister Anna Diamantopoulou called the German plan “the product of a sick imagination”. The European Commission said the budget “must remain the full responsibility of the Greek government”. A German official told the Associated Press eurozone finance ministers were discussing the plan.

From Reuters:

Euro zone finance ministers have rejected an offer made by private bondholders to help restructure Greece’s debts, euro zone officials said on Monday, sending negotiators back to the drawing board and raising the threat of default. The disagreement increases the risk that it may prove impossible to strike a voluntary restructuring deal between Greece’s creditors and the Greek government - an outcome that would have severe repercussions for financial markets.

All things being equal, we would prefer to see the S&P 500 close higher today.

Over the weekend, the Greek bondholders basically said “we have come down as far as we can for a voluntary writedown - the shortfall needs to be made up via bigger contributions from EU countries.” MarketWatch just reported the response from the EU countries was “we are not giving another penny to Greece.” This means they have work to do, or the writedown will most likely become involuntary, which will trigger default insurance contracts (CDS). From MarketWatch:

Greece plans to offer a bond-swap deal to creditors in the private sector by Feb. 13, Dow Jones Newswires reported Monday, citing an unnamed Greek Finance Ministry official. The news agency said separately that euro-zone finance ministers are unwilling to give Greece more money than originally planned in a bailout loan. Quoting unnamed sources familiar with the situation, Dow Jones said €130 billion would be the limit, even if it meant a bigger loss for Greece’s private creditors or additional austerity measures.

From a tactical perspective and related to a possible DeMark reversal, we would prefer to see the S&P 500 trade above 1,315.49 today and close in positive territory. Odds favor that today would not see the high in stocks, even if a reversal were to unfold (subject to change based on how we trade today). As we mentioned early in the year, it is prudent to see how this plays out before making any significant chess moves for 2012 (bearish or bullish).

On the longer-term fundamental front, we are more inclined to look for opportunity outside the U.S. in the coming weeks and months. According to Bloomberg:

European equity valuations have fallen to the lowest levels since 2004 compared with the U.S., as economic forecasts between the two regions diverge by the most since 1998. The Stoxx Europe 600 Index trades at 1.43 times book value, or assets minus liabilities, after falling 11 percent last year. That compares with 2.14 for the Standard & Poor’s 500 Index, according to data compiled by Bloomberg. The European gauge has been at least 30 percent cheaper for 69 straight days, the longest stretch in seven years. Economists forecast U.S. gross domestic product will expand 2.3 percent in 2012, compared with a 0.2 percent contraction in Europe.

Dow Jones reported Germany and the IMF balked at the 4.0% to 4.2% negotiated coupon for the new Greek bonds; they want 3.5%. Talks ongoing. You are never going to believe this - they pushed the deadline out for a deal to January 30. At some point, the markets will say “enough”.

Zero Hedge posted a TrimTabs video on January 20. TrimTabs reports on supply and demand of shares of stock and money available for investment. Some interesting highlights from the video:

1. The VIX recently hit its lowest level since July 2011.
2. Hedge fund S&P 500 optimism is the highest since July 2011.
3. Put/Call ratios five day average was recently the lowest since July 2011.

Extreme levels of optimism can be a contrary indicator for asset prices. A logical question is how did July 2011 investors make out?

A few more nuggets from the video - newsletter writers have the highest level of optimism since April 2011. How did that work out? Not well - the 2011 market peak was made on April 28. Mutual fund managers are more bullish on stocks today than anytime since April 2010; the S&P 500 dropped 17% from the April 2010 highs to the July 2010 lows. The full video from TrimTabs is below - notice the reference to what is driving the markets at the 2:43 mark (hint: money printing).

After you click play, use the button in the lower-right corner of the video player to view in full-screen mode. Hit Esc to exit full-screen mode.

Once the next stage of the Greek saga plays out, the markets will turn their attention to another country. Based on recent action in the credit default swaps (CDS) market, Portugal seems to be next in line. According to MNI:

Fears that Portugal could be the next Eurozone member to restructure its debt drove up yields on the country’s sovereign bonds Wednesday as the cost of insuring them rose to a record high.

Credit default swap contracts on Portugal climbed 62 basis points to 1,240, signalling a 64 percent probability of default within the next five years, according to the financial information firm Markit.

Analysts said the continuing deterioration this week has stemmed from worries that a disorderly Greek default could leave Portugal exposed as the next most vulnerable EMU country.

“There has been some forced selling in the cash market, but a bigger factor has been the uncertainty around the Greek PSI,” said Gavan Nolan, director of credit research at Markit. “Portugal is the next candidate for a restructuring.”

The term decouple is often used on Wall Street to explain something that is difficult to wrap your arms around. In late 2007/early 2008 we were told the emerging markets would decouple from the mortgage mess based in the United States. In the video below, we explore:

1. Important S&P 500 levels to watch on the upside and downside.
2. How the decoupling theory played out in 2008.
3. The technical state of global markets.
4. Monthly Demark counts.

After you click play, use the button in the lower-right corner of the video player to view in full-screen mode. Hit Esc to exit full-screen mode.

To reach another trend exhaustion signal today on the daily chart of the S&P 500, we need a close greater than or equal to 1,296.82, which is the January 12 high. As we said last week, we would prefer to see the market close higher in the very short-term.

Some excerpts from a CNBC article on decoupling:

The story goes that the market is “decoupling,” – that is, shaking off euro-land panic and instead focusing on the nascent U.S. economic recovery. In this scenario, stocks and the dollar can glide higher together while American investors remain blissfully unaware of the debt storm abroad.

Just don’t try selling it to Bob Janjuah, the flame-throwing co-head of global macro research at Nomura Securities, who believes decoupling is a myth that will be exposed sooner rather than later.

“Yet again, and certainly for the third year in a row, we are being told that the U.S. is over the worst and that a sustainable recovery is here,” Janjuah told clients. “We are expected to believe another ‘decoupling’ fairytale, only this time around neither Asia/EM (emerging markets) nor the Eurozone really matter to the U.S. economy.”

Inaction by leaders both in Europe and the U.S. to attack dual debt crises will hit investors later in the year, he said. In particular, he attacks the “neo-communist experiment in the West that relies on more debt and printing money in order to maintain the status quo.”

As we noted in a December video, the levels of debt around the globe have reached unsustainable levels, which will most likely put pressure on global economic growth. Despite numerous problems in Europe, investors seem to be hopping on the decoupling bandwagon. The ratio of bullish sentiment to bearish sentiment prompted Jason Haver to pen Two-Year Study of Investor Sentiment Points to a Top; some excerpts:

The latest American Association of Individual Investors (AAII) sentiment survey numbers were released yesterday, and amazingly, were virtually unchanged from the week prior. For the second week in a row, bearish investors remain at 17%, still near decade-long lows. This struck me as a rare situation, so I decided to investigate further.

I set out to uncover how the market reacted when there were two or more consecutive weeks of bearish investor percentages this low, using bears below 19% as the control figure (thus allowing for roughly 20% standard deviation in the data figures). After combing through 562 weeks of AAII data by hand, I discovered that since the 2000 market peak, there have only been 12 other occurrences of this scenario. Interestingly, the current back-to-back reading of less than 19% bearish is the first occurrence we’ve seen in almost six years. So indeed, this is a rare set up.

From WSJ:

We bumped up our Q4 GDP estimate to 3.5% recently, and to our chagrin the data now starts to disappoint. First, it was retail sales. Today, it is the worsening balance of trade. November’s trade gap widened to -$47.8bn in November from -$43.3bn in October against our expectations of a widening to -$44.5bn. The real goods balance fell to -$47.5bn from -$44.0bn. Bottom-line: A wider trade gap implies weaker GDP; our Q4 tracking estimate is running 2.7% from 3.0% post retail sales. The broader story is that growth net of inventory accumulation – domestic demand – is softening as we head into 2012.