Getting close....to meltdown?

Yesterday the 4 week moving average of initial unemployment claims was above 350k for the second week in a row. This is a bad sign for the economy. Other data out the past week has been awful -- home sales, durable goods, home prices, consumer confidence, inflation. On Monday the ISM manufacturing will be released, and it should show that manufacturing contracted in February, confirming the start of a US recession. Financials continue to disclose major losses while corporations have started to anounce layoffs. Mortgage rates and spreads for much corporate lending have ticked higher over the past month even though the Fed cut rates by 125 bps.

Despite the abysmal news, the equity markets performed fairly well the past week, rallying higher on several days. I admit this made me uneasy -- a market that can rally on bad news may be a market that had already priced in the bad news, and is now ready to move higher. I am more than willing to admit this is a possibility. But the more likely scenario is that it was a short-covering rally / bull-trap. It seems that I misjudged the level of short interest out there (there is a lot), and probably some people were forced to reduce positions into the rally. My primary rationale for this belief is that the bond / credit / FX markets are not confirming the equity rally. TIP yields are still very weak, treasuries seem to have plateaued, credit spreads are going ever higher, and USD keeps sinking. If equities were really going to mount a sustainable rally, I would expect at least some of these markets to provide some support.

So the million question is: how long can the market hold up in the current barrage of negative economic, financial and corporate news? The answer is: probably not very long. In fact, there are some signs that the rangebound nature of the past few weeks is coming to an end. US equities faltered late-Wednesday of this week then were down about 1% yesterday. European equities are down over 1% this morning. More importantly, JPY/USD has moved downwards by an incredible 4 yen over the past week, including about 2 yen in the past 24 hours. JPY/EUR has moved by 2 yen in the past few hours. Could this signal the start of the next phase of meltdown?

As mentioned last week, gold and oil continue to power higher, and I think this may continue for a while longer. It is instructive that there seem to be no "serious" analysts predicting $120 oil. Everyone seems convinced that the price is so high due to "speculators". Are all the hedge funds in the world long? Perhaps, but the real money investors do not appear to be, setting up the possibility of much more upside to come. I am rather annoyed that I did not get long energy shares in mid-January when I looked at them closely. Oh well, there will be another time -- this is a long-term story and patience is neccesary. What is much more annoying is that the TSX continues to strongly outpeform SPX on the upside, causing immense pain to my holdings of HXD. Given the expected strong performance of commodities for the foreseeable future, I will take advantage of any future weakness in the TSX to exit my HXD positions. Heretofore I will focus the short trades on other markets / sectors.

MARKET POSITION: SHORT - EQUITIES (11 units); GOLD - LONG (1 unit)