May 26, 2012 A Fine (Copper) Kettle of Fish

Risk/Reward Vol. 120

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

"Keep on talking to me baby/I'm hanging on your every word
Keep those drinks a coming/Maybe we'll both get what we deserve"---lyrics from "Lookin' for a Good Time" by Lady Antebellum

"I could've been a Princess/You'd be a King
Could've had a castle/And worn a ring
But no/You let me go/And stole my star"---lyrics from "Princess of China" by Coldplay (featuring Rihanna)

"Get a copper kettle, get a copper coil
Fill it with new corn mash and never more you'll toil"---lyrics from "Copper Kettle" by Bob Dylan

If one only compared the closing numbers of the Dow Jones Industrial Index last Friday to this Friday, one would conclude it was a good week with the Dow rising 84 points. But was it? Take Wednesday, for example. Dragged down by worries about a possible Greek exit ("Grexit") from the Eurozone, the Dow was down 190 points mid day only to rally late in the afternoon to close down a mere 6 points on the RUMOR that some breakthrough on the Greek crisis had been reached in a pre-dinner meeting between French President Hollande and Italian Premier Monti. What kind of market is this? Not one in which I want to participate. Fundamentals be damned---this market "hangs on every word" from any number of European heads of state who "keep on talking" about various fixes to the Eurozone debt crisis in general and a Grexit in particular. Surprisingly, the stock market "keeps drinking" the Kool-Aid dispensed by those heads of state, none of whom mean a hill of beans except Frau Merkel who has remained remarkably quiet.

Participating in a market that keeps the "drinks a coming" will result in getting "what we deserve". It may be good; it may be bad; but for sure it is unpredictable. I, for one, will remain on the sidelines at least until some clarity on the future of Greece is reached which will not be before the next round of elections on June 17--and maybe not then. The simple fact is that no one--and I mean no one-- knows the collateral effect that a Grexit or a worse, a Spanish bond default will have on world markets. Perhaps all of the liquidity pumped into Eurozone banks over the past 6 months via the LTRO (see www.riskrewardblog.blogspot.com vols. 95, 98 and 107) will be a sufficient buffer. Or perhaps, it will result in another Lehman Brothers-like meltdown. I am not willing to chance the latter.

The fact that I am on the sidelines does not mean that I am idle. Indeed, my studies are more intense when in a cash position than when fully invested; with an eagle eye on how and when an entry point will appear. Currently, my eye is on China which clearly has been the "King and Princess" of worldwide economic expansion for the past several years. Unfortunately, the building of "castles" and apartments and other housing units which has driven much of China's internal growth has come to a grinding halt. Steel production is a a standstill, and copper (the bellwether of all economic expansion) is overflowing warehouses and being stacked in parking lots. China's "star" may be falling. Let's hope not because the world wide implications would be devastating. Think of the impact of a declining China on capital goods manufacturers (CAT, CMI, JOY), on consumables (YUM, MCD, SBUX, COH), on oil (RDS, TOT, STAT), on Australia and on all of South America which are the sources of so many raw materials. YIKES! Below are some statistics from www.riskrewardblog.blogspot.com Vol. 74:

China has 1.3 billion people, 20% of the world's population; China is the largest manufacturer in the world; China is the world's largest exporter; China is the world's largest automobile manufacturer; China consumes the following percentages of the WORLD'S commodities: 53% of cement, 48% of iron ore, 47% of coal, 45% of lead, 40% of copper, 36% of nickel, 10% of oil.

If and when China does restart, however, you will see it first in mining--particularly copper miners (BHP, RIO, FCX), each of which is trading at 2009 levels. When the time is right, buy these miners and ride them up. It will be like "filling up with new corn mash---never more will you toil".

I am not a pessimist, but I embrace reality. Today's reality is that the Eurozone crisis, which currently dominates the stock market, is one that can be fixed by Germany putting its full faith and credit behind the issuance of Eurobonds---an event which likely will occur sooner or later. And as soon as it occurs, the crisis will abate. Unfortunately, the Eurozone crisis is masking a more serious and longer term reality--a slowdown in China. Let's hope the Kings, Princes and Princesses of China are wise enough to kick start renewed expansion. Otherwise, as Dylan says, you can take the current "reality and cast it to the wind/And it ain't never gonna be the same again."