The markets have rallied pretty remarkably since mid-March, given the fact that the economic data has been dismal since that point:
* Today’s Consumer Confidence report which feel to a five-year low in April is indicative of the fact the consumers are under stress, faced with record credit debt, negative personal savings, rising prices, a deteriorating dollar in a softening job market.
To make matters worse, this morning we found out that foreclosures in Q1 rose 25% over the previous quarter and more than doubled on a year-over-year basis. So mutch for Greenspan’s “wealth effect”.
Meanwhile, economists continue to debate whether we are in a recssion but whether you want to call it a recession or a slowdown, the bottom line is that nobody has a clear idea when things turn around for the better.
To be sure, the markets rallying over the past 30 days has been based on hope and optimism, not fundamentals. The rationale has been that the worst has got to be behind us and that things can’t get worse. Or can they? We don’t know.
But we do know that there haven’t been any practical economic anecdotes put foward by the Administration or Wall Street about how to get things back on track. We have argued for some time that a catalyst to the problems we are in has been the gambit by Washington and the Fed to leverage debt as the key driver to our economy.
The mounting deficit has led to a softening of the dollar over the past six years and that has been exacerbated by the Fed’s cuts since September. Wall Street bought in and leveraged its future on mortgages and other exotic debtentures. The consumer has leveraged itself to the hilt. We are all guilty, so it seems.
Apologists for a weak dollar policy say it is worth it to stimulate our export business. But that exports are only 12% of GDP. Consumers are more than 70%. And as we noted above, consumers are strapped with negative personal savings and record credit debt.
All of this lays the groundwork for our assertion that the future looks uncertain at best, for now. And given that Wall Street doesn’t like uncertainty, we would argue that there is more risk to the downside at current levels and further room to the upside.
So here, at 12,800 on the DJIA, 2,420 on the Nasdaq and 1,390 on the S&P;we would argue that this is much closer to the top of the range in the near to mid term than the bottom, so hedging strategies are in order:
* Protective Puts - insurance policies against downside risk, check with your broker on this strategy
* Out of the Money Covered Calls - we recommend selling calls into strength at current levels, out of the money. This is a good way to lower your cost average...write the calls, let them expire, and if the outlook remains the same, do it again.