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Thursday – F*cked by the Fed (there’s no other way to put it)!

Well, that's that!  

The great unwind has begun and I was off by $100Bn (20%) yesterday, when I predicted the Fed would aim for $500Bn a year in balance sheet reductions (they are going for $600Bn) although, to be fair, they are gradually stepping up to $600Bn so the net effect will be the same $500Bn a year, which is what we calculated would be the most even a recovering economy could withstand.

Keep in mind that treasuries are only half of the assets the Fed holds, they also have a lot of stock they need to dump and a whole lot of real estate and mortgages they need to find buyers for as well and you KNOW what happens when a seller HAS to sell to raise cash by a certain time – they are simply not going to get great prices for the assets they are dumping.  

It's a lot easier to write a check to buy things than it is to sell them – ask anyone who's thrown a garage or estate sale.  Whatever the Fed ends up writing off will be losses that transfer to Treasury and ultimately add to our deficit.  None of this is accounted for in Trump's already pure-fantasy budget and, in fact, the Fed ADDED $97.7Bn in profits to the Treasury last year, reducing our defict.  If instead they lose $100Bn a year – that's a $200Bn swing in our deficit.  That's 5% of Government spending – no small item!

The market seems oddly calm about all this but, as we discussed in yesterday's Live Trading Webinar (where we shorted Oil (/CL) at $51 and the Russell (/TF) at 1,445), the process for large funds and banksters involves several meetings and perhaps board votes before they begin to unwind their own assets – so the real reaction is likely to be delayed into next week.  

The quick reaction was a 1% drop in the indexes, a half-point drop in bonds (higher rates) and

on our Dollar trade, as it blasted up to our 92.50 target from the Morning Report and that was good for same day gains of over $750 per contract, which we cashed in during the live Webinar – almost exactly at the highs.   
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Remember:  I can only tell you what is likely to happen and how to make money trading it – that is the extent of my powers – the rest is up to you!  

I can tell you that, alhough we have $250,000 worth of hedges against a 10% drop in the markets in our Short-Term Portfolio - I'm very concerned it's not enough as the great unwinding begins because, as we discussed yesterday, the Fed's $4Tn infusion of capital combined with another $10Tn from Central Banks around the World and another $12Tn in Government bailouts (resulting in higher debt) and $10Tn in stimulus spending have been the ENTIRETY of the planet's growth for the past 10 years.  The Fed is saying they are going to start taking back their money and, while the Government's may pretend they don't have to worry, all that debt is going to bust their budgets going forward as rates on those massive debt piles begins to rise.  

In fact, just this morning S&P finally got around to reading my warnings on China's debt and has downgraded China's rating from AA- to A+.  "A prolonged period of strong credit growth has increased China's economic and financial risks," S&P said in a statement. "Although this credit growth had contributed to strong real GDP growth and higher asset prices, we believe it has also diminished financial stability to some extent."  Gee, ya think?  The ratings cut, announced after Chinese financial markets closed for the day, could raise Beijing's borrowing costs slightly, but the more significant impact is on investor sentiment.

Like Japan, China's Government Debt has climbed to 257% of GDP and that's up 143% since 2008 which means, every year for 10 years, China has put 14% of their GDP into stimulus and their economy grew at 7% a year.  As I've said many times in the past – you can ignore math only so long before it bites you in the assets.  The bigger the GDP grows, the more it costs to keep growing it and the more it costs to grow it, the greater the interest gets on debt service, which creates a drag on the economy that requires you to provide even more stimulus for each unit of growth.  Ultimately the economy becomes too big to succeed.  

Math is a critical tool for Fundamental Invesors like us (and there are so few of us left) and Math is still the ultimate fact and facts do matter – eventually.  We were discussing yesterday (in the Webinar) how the Financial News is often fake, with bulls and bears pushing their agenda – even through the most trusted sources.  That's why the vast majority of investors (over 80% now) have retreated to the tea leaves of Technical Analysis – Fundamental Investing has become very hard work!  

Take oil this week.  Complete load of nonsense and not just because I was wrong about a drop into the contract rollover yesterday.  It's all a gigantic scam (see recent PSW Reports on the subject) and very easily manipulated but we keep our eye on the Fundamental ball and yesterday, we stuck to our guns as oil hit $51 during our Webinar and stayed short and this morning we are being rewarded with a $4,900 gain on the day as oil comes back to test $50 (our original shorting line was $50.50).  Overall, it's a $10,000 turnaround ($1,000 per contract) since yesterday's call to stay short in the Webinar.  

You have to wade through a tremendous amount of BS to play these markets.  Here's two articles published at about the same time this morning:

Remember the IEA is the propaganda arm of OPEC and OPEC has a meeting on Friday and is pulling out all the stops to keep Brent (/BZ) at $55 into the meeting.  As noted in previous Reports, the Saudis need to pull off a massive win with their Aramco IPO – the future of their entire country (or at least the monarchy) depends on them selling off the state oil company at a valuation well in excess of $1Tn and they are not going to get there if Brent is below $55.  They've already pushed the IPO back from Q1 to Q4 next year so, one can assume, even the Saudis don't think they can hold $55 ($50 on /CL) through the winter.  That makes shorting /CL at $51 sort of a no-brainer.  

Are we consolidating for a move up or a move down?  As you can see from this chart, if all OPEC does on Friday is keep the cuts they have now, we're heading back towards 3 quarters of inventory builds in 2018.  It's only 12 (2030) years until China, France, Germany, India, Netherlands, Norway, and the UK plan to eliminate fuel-burning cars entirely - and that represents half the World's population (and Africans don't have many cars) with more countries joining the list each month at this point.

About half (50%) the World's oil is used for transportation and 60% of that (30%) is used for cars.  If the whole world moves towards ending gasoline consumption by 2030, we divide 30% by 12 and get a reduction of 2.5% per year in gasoline consumption (see – MATH!!!) but it's only half the World committing so far and the adoption rate is not linear so a fairly small impact this year and next but rapidly accelerating after that.  

Even worse for OPEC's future is that China and India have both committed – and that is the primary source of the IEA's consumption growth projections.  As I said – BS!  So it would be foolish to value an oil company as if it's a long-term going concern – you have to look at them more as wind-down businesses, that may not be around at all in 2040.  Yes, we will still use oil for all sorts of things but we have a 40-year supply of oil in the ground at the current rate and we're pumping out 2.5% of it each year (and we discover more too) but if consumption drops just 25%, then we have a 50-year supply and we're over-pumping by 25% and prices will collapse.  Also, once people see all-electric cars in just over a decade, they are certainly not going to believe we won't completey replace oil in less than 5 more.  

We survived peak wood and we survived peak coal and now we are very likely to survive peak oil and, HOPEFULLY, that will also help us survive peak carbon.  China and India are not just simply trying to improve their books by importing less oil – they are also trying to save the planet (over Team Trump's objections) and to save their own citizens, who are dying at a rate, in China, of 1.6M people per year, making it the one of the leading causes of death in the country.  

The great thing about pollution is it's very democratic – the Top 1% have to breath the same air as the Bottom 99% and there's only so much canned air you can carry around on a long walk.  Suddenly, even the rich are concerned about their continuing ability to breath – something that makes the Chinese Party Leaders seem a lot smarter than the average Republican, who are still selling out America's lungs to the Koch Brothers.  

And don't get complacent even if we somehow stop Trump from bringing back coal-fuled smog to our cities – the next line of attack is our drinking water as Goldman Sachs, JP Morgan Chase, Citigroup, UBS, Deutsche Bank, Credit Suisse, Macquarie Bank, Barclays Bank, the Blackstone Group, Allianz, and HSBC Bank, among others, are consolidating their control over water. Wealthy tycoons such as T. Boone Pickens, former President George H.W. Bush and his family, Hong Kong’s Li Ka-shing, Philippines’ Manuel V. Pangilinan and other Filipino billionaires, and others are also buying thousands of acres of land with aquifers, lakes, water rights, water utilities, and shares in water engineering and technology companies all over the world.

In 2008, Goldman Sachs called water “the petroleum for the next century” and those investors who know how to play the infrastructure boom will reap huge rewards, during its annual “Top Five Risks” conference. Water is a U.S.$425 billion industry, and a calamitous water shortage could be a more serious threat to humanity in the 21st century than food and energy shortages yet the Trump Administration is dismantling the 40 year-old Clean Water Act, which was meant to preserve citizens' access to clean water

The faster oil dies, the faster the usual suspects will move to take over another vital resource people can't live without as there's no other way for them to make up for what is likely to be $1Tn a year in lost oil revenues (out of $2Tn at $50).  That is, until they can figure out how to make you pay for air, of course…

Meanwhile, if you'd like a nice hedge to add to your portfolio, try this one:

  • Sell 5 Limited Brands (LB) Jan $37.50 puts for $3.40 ($1,750)
  • Buy 50 Ultra Short Russell (TZA) Oct $14.50 calls for 0.85 ($4,250) 
  • Sell 50 Ultra Short Russell (TZA) Oct $16 calls for 0.30 ($1,500) 

That's net $1,000 on the $7,500 spread that's $2,500 in the money to start.  The worst-case scenario is owning 500 shares of LB at net $39.50 (the put strike plus what you lose on the spread) and, of course, you can substitute any stock you REALLY want to own – like CAKE, where you can sell 4 April $45 puts for $5.30 ($2,120) which would drop the net to $630.  Even starting with $1,000 in cash, the profit potential is $6,500 (650%) in 4 months and for TZA to move up $1 (6.66%) all the Russell has to do is fall 2.2% from 1,445, which would be 1,413, which would be a $3,200 per contract profit on our Futures shorts as well. 

See how easy hedging is – now you can open up your own fund!  

 

Provided courtesy of Phil's Stock World.

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