Making the bearish case

Bear capitulation rules the land.  The Fed has POMO in high gear, and stocks simply will not be permitted to fall.  When one leader does stumble, the indicies absorb the blow, rotate from one sector into another, and find support.  At the worst we may see a pullback, a dip which will be bought.

In 2007 the obvious RE bubble and subprime mess did not matter because everyone was hedged.  When Lehman went away, so did that last sense of security, and we had the crash.  Fed intervention and POMO is taking the place of derivative strategies this time around, they are in complete control of things, and they won't let events get ahead of them again.  Well ... we'll see about that.

I believe that we can crash again, but that there will be a period of bear market violence in the market, with sharp sell-offs and vicious rallies -- in other words, a repeat of 2007.

The deflation case is as strong as ever -- my friend Reverse Engineer penned a good restatement of it the other day -- but it's not going to take the market down all at once.  It needs a starting point, and time to build, gradually, into larger waves, until we finally get that surprise that takes us down in a grand finale.

I contend that that surprise may be Germany withdrawing from the Euro this Christmas, using the holidays to declare a bank holiday and a conversion back to the Mark.  This summer will witness increased shocks and strains within the Eurozone, with the usual fingers pointed towards Germany, slurs against the "Nazis", demands for them to pay their share.  There will be rumors, but there were rumors before.

And in the winter, Germany will shrug, and take its own path.  I say this now, not for the sake of prediction or prophecy, but because if it all works out, I intend to put all the firepower I can into index puts on the very eve of this great event, and I want this record to show that I suspected it was coming.  OK, SEC?  We clear on this?

We have plenty of room on the long-term DJIA log chart to plummet to long-term support.  The entire market rally since 1995 could come right off (and I think it will).

But for now, the big bearish wedge needs to hold.  We have that McHugh phi mate turn date coming up in a couple of weeks, which happens to hit the fedgov sequester on March 1.  I think we see complacency up until that very moment and then oh shit, they actually let it happen.

SPX 02-17

But it won't all come off at once.

We've got to fight it out first, just like 2007.  And we need POMO for this.  We have got to keep a bid under this market, and faith among the market bulls ("maniacs" as Permabear Doomster calls them).

Prechter's lightning-bolt crash into the dirt is one of the worst things that ever happened in bear-dom.  It fed the idea that it could all go to shit at once, without retrace, without mercy, so you had better have an iron in the fire just in case.  So bears held puts, or 3x inverse ETFs, and they got eaten alive, because it appears we actually had to work our way out of the hole.  We had to get back to this insane extreme, where bullishness is off the charts and the unthinkable is again unthinkable.  The Fed has got everything under control ... no worries ... go long with leverage ...

As bears, we don't want a collapse, we want a tradable market.  We absolutely do not want to see it all go no-bid and go all at once, until it is ready.  To the extent that the Fed and ongoing POMO can keep this from happening, and to give us awesome bear-market rip rallies, let us watch for these situations, and enjoy them.

But first we need our top.  The wedge is important.  So is March 1st.  If we shoot higher, we'll try to make sense of it with TA, do the best we can.  It's all we have got.

My macro-thesis is that we get one more massive wave of deflation, before the bond market and the US dollar itself come under fire, and we experience the true hyperinflation -- rejection of the dollar as a store of value, particularly in exchange for energy in the form of crude oil.

Like 2007-2009, the crash proceeds in 3 waves, an A-B-C pattern.  2013 gives us A and B, the early stresses and contention, and the beginning of C.

When Germany reintroduces the Mark, we get in 2014 the equivalent of the 2008 waterfall.

A-B-and-nasty-C to support

How can this scenario still be tradable?  Because it will not yet hit the dollar and the (US) bond market itself.  European credit may fly all to hell, but the $DXY will be well above 100 and the 10-year Treasury bond will be under 1% in yield.  For now, for us, the interest-rate derivative monster will be controlled, "easy-peasy, lemon squeezy", as my four year-old daughter says.

It only gets dicey when the European situation is resolved, and the US dollar itself comes under fire.

IMO, the final hyperinflation of the dollar may have several causes, alone or in concert:

1. With crude oil at $20 and the S&P below 500, the basic faith that the deflated US economy can afford the obligations on and off the books will simply evaporate.  Interest rates will dislocate and our money will enter a death spiral.

2. By 2014 or 2015, the bleak reality of peak oil and the world energy situation will be increasingly obvious.  The very idea of the petrodollar will come under assault, which, along with our carriers and H-bombs, is the only real backing for our money.  As long as you can trade a dollar for oil, it's a very hard currency.  Once that ends, it's toast.

3. The crash of 2014 and the death of one or more TBTF U.S. banks forces the Fed/Treasury to break the rules and issue a true naked issuance of currency, to cover the depositors.  Bank of America uses its deposits to back its derivatives book today.  What will happen if this goes to zero (or much lower?)  The Fed buying MBS with newly-created money is pretty close to printing (because they will never repo this trash), but it still stays within the "rules" as we know them.  That may change.

4. When the market tanks again, and Obama's approval flatlines at 13.1%, disgruntled insiders leak the college records and or other key documents on the man.  Then we get a category 5 constitutional crisis which would nuke any remaining faith in our institutions and little details like shared national obligations.  This one is out there as a possibility, but until this is settled satisfactorily it is still very much out there.

Plenty of scenarios pointing toward the eventual death of the dollar.  But there is plenty of room on the charts, and in my narrative, for a scary deflationary convulsion before we get there.

Too many claims on real wealth.  Too little real wealth.

The suburbs and strip malls of the America ... are the collateral for its debts.

Hey!  Don't just sit around waiting to see if the upcoming turn date hits or not.  In the meantime, do yourself a favor and order Dmitry Orlov's new book.

Get a signed copy, if there are any left.