If a watched pot never boils, is it also true that an expected
recession never happens? That seems to be the case now.
The bears have thrown everything but the kitchen sink at the global
economy, from European debt crisis to a Chinese slowdown and now
weak earnings forecasts, but the S&P 500 continues to make
higher lows while the data points gradually improve. Several things
First, an army of self-appointed economic experts have decided that
"financial crisis causes recession." Most of these are the same
people who ignored the warning signs in 2008, and with the same
lack of insight they recently predicted that budget problems in
Spain and Greece would have the same impact as the U.S. mortgage
bubble. The problem is that Spain and Greece were never central to
the European or world economies, but U.S. housing was.
Second, these crises of Europe and Chinese weakness have been
thoroughly anticipated for years. That's why coal, steel, and most
emerging markets traded like garbage starting in early 2011. The
mortgage crisis, however, wasn't expected; people denied the
gravity of the situation all the way up through September 2008.
Third, the economic expansion in place since 2009 hasn't relied on
borrowed money the way the 2002-2007 expansion did. (Except for the
U.S. Treasury, of course.) The same is true in the stock market,
where none of the recent gains in share prices were fueled by
margin buying, put selling, yen selling or any other form of funny
money that can suddenly be yanked away.
Fourth, and most importantly, the current economic growth phase
simply hasn't lasted long enough to end. Most expansions keep going
for at least five years, and the current one is less than four
years old. This brings us back to the point about financial crisis:
Other crises like subprime in 2008 or the crash of 1929 occurred
when the economy was already teetering on recession. Contrast that
with the October 1987 drop or the 2010 flash crash; both occurred
amid the backdrop of a strong economy, and therefore no recession
followed. The same is true of the recent mess in Europe.
So where does this leave us? At yet another great entry point, in
my view. We've endured a full beating of bad news, and now I
suspect that the market will start imagining positive headlines.
The U.S. economy will be the first focus, fueled by job growth and
yesterday's strong manufacturing data. The aftermath of Hurricane
Sandy will result in higher demand for all kinds of
. That means more gravel, cement, trainloads of lumber and more
hours for workers who've been standing around waiting to get hired.
(Such names as Lumber Liquidators, USG, and Louisiana-Pacific
should watched as possible buys on pullbacks.)
Then we have the rest of the world. Spain and Greece will probably
remain in a catatonic state, but the real story is China. Despite
all the reasons to worry about the Asian giant, the data suggests
that its economy is slowly accelerating yet again.
And the market is just now starting to price in this recovery.
Coal miners and related stocks
have been the strongest group on researchLAB over the last month.
United States Steel has been making higher lows and copper giant
Freeport-McMoRan just bounced at its 50-day moving average and is
firmly ensconced above its 200-day moving average.
Then we have Japan's determination to devalue its currency, which
has hovered at long-term highs for more than a year. This has a
tendency to drive up commodities and stocks because traders can
sell the yen like a free loan: Imagine borrowing $100 in yen now,
investing it, and then having to pay back only $90 because the yen
is dropping? That so-called carry trade was a huge engine for
upside between 2000 and 2007, and everything is setting up for its
So here are some potential ideas. As usual these are starting
points rather than outright recommendations:
- U.S. Steel (X): Sell the December 18 puts for $0.35 and buy
the December 25 calls for $0.35. It will cost nothing and could
very well expire worthless. But selling those puts sets a buy
order at a strong support level. If there is a quick rally this
position will generate tremendous leverage.
- Financials (XLF): This sector has paid its dues from the 2008
crash and many of its blue-chip members, including Bank of
America (BAC), still trade well below book value. The charts
refuse to break, and yesterday we saw
short-term call buying
in the XLF and BAC.
- Short Priceline.com (PCLN): This stock has had an amazing
run, but it's been making lower highs and lower lows. It is set
to gap higher this morning after a strong earnings report, but if
it stays below the September peak of $649, buying puts could make
: These are two groups that don't get a lot of attention, but
they've outperformed the broader market for the last year and are
now coming back to life. See
I own FAS, which is triple-leveraged to the XLF.
(A version of this article appeared in optionMONSTER's
What's the Trade?
newsletter of Nov. 1.)
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