The Market Just Realized Two BIG Problems

The US Presidential election ended November 6, 2012. Since that time, the market has fallen 3%.

There are a multitude of reasons for this, but the primary one is the fact that the markets is beginning to realize two key items:

1)   Everything that was a problem in the run up to the US election is still a problem (in fact many issues are now worse than they were a few months ago).

2)   Having engaged in pre-emptive and extreme actions to keep things calm in the run up to the election, the US Fed and ECB have run out of effective monetary bullets.

Regarding #1, according to the ECRI, as of June 2012, the US is back in recession. The ECRI has proven far more accurate and timely in predicting recessions than the NBER. And now that the election is over I expect other US data (the ISM, LEI, and employment numbers) to start moving towards reality (bad).

By the way, the US just hit a new record for food stamp usage.

Across the pond, the European banking and sovereign debt crisis continues to worsen: Greece has to redeem €5 billion worth of bonds on Friday. The country just managed to pass its latest budget proposal (which undoubtedly the country will fail to meet… just like all the others) but the troika has yet to issue its latest report on Greece.

Germany has stated point blank that without the troika report, Greece won’t be getting more funds. Is Germany finally ready to let Greece fail? It’s hard to say. But Germany did put together a special advisory panel to focus exclusively on assessing the cost of a Grexit back in August.

Elsewhere in the EU, Spain continues to implode. The mainstream financial media notes that people are now killing themselves when evicted from their homes. However, things are in fact worse than that. My contacts in the country inform me that in some regions the government hasn’t even paid its pharmacies in six months. Indeed, the region of Valencia owes its pharmacies an insane €500 million.

This is nothing short of a societal shut down. Expect the civil unrest and economic implosion to accelerate in the coming weeks and months.

And finally, France’s private sector is falling to pieces. September’s auto sales numbers were worse than those of September 2008. The country’s PMI reading is back to April 2009 levels. And the French Central Bank has announced the country will re-enter recession before year-end.

Again, nothing has been fixed in the last six months. In fact, things have gotten much much worse.

As for #2, it is now clear that the ECB and US Fed used up their last remaining effective bullets this summer in their efforts to aid the Obama re-election campaign (Romney stated he would fire Bernanke, hence the Fed’s decision… while various EU officials admitted the Obama administration requested that they keep things calm in the build up to November).

Indeed, stocks are now sharply down since QE 3. Gold and Silver, in contrast are up. If this dynamic does not change immediately then the positive consequence of the Fed’s actions (namely stocks rising) is now obsolete while the negative consequence (higher inflation) is about to hit lift off.

What would the market look like without the Fed’s aid? According to the business cycle the S&P 500 would be closer to 1,000.

In the EU, the ECB announced a plan to make unlimited bond purchases for EU nations that meet various reforms and “conditions.” The problem with this is that none of the countries that need money (namely Spain and Italy) want to meet any conditions as their economies are already imploding without additional austerity measures (see the information on Spain above).

Thus, the ECB promise has in fact turned out to be a colossal bluff. At the end of the day, Mario Draghi can say whatever he wants, but unless Germany is willing to go along with the ECB, he can’t do much of anything. Germany demands “conditions” therefore so does the ECB.

So… the global economy continues to slow. Europe is burning (literally in some countries). And the primary Central Banks (the Fed and the ECB) are out of ammo.

Buckle up… things are about to get messy.

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Graham Summers