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Weldon Money Monitor

By

Thanks Greg!

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CPI has placed a BIG bet on the table, posting an over-the-top raise in the form of a +4.3% Three-month Annualized rate of inflation in the All-Items category, thanks to an over-the-top monthly raise of +0.6%.

But, on the other hand, the 2.75% Fed Funds rate remains ABOVE the Cleveland Fed's Median CPI rate of +2.4%, and, the Core-CPI yr-yr rate of +2.3%.

In fact, the latter FELL during March, from its near-3-year high of +2.4% posted in February.

We failed to hear anyone mention that factoid.

Moreover, let's look at the sources of March price inflation:

First, Medical Care and Housing were responsible for almost ONE-HALF of the monthly inflation, while Transportation posted a +1.9% monthly rise on the back of a large +7.9% March increase in Gasoline prices.

So, at a yr-yr rate of +5.2%, fueled, literally and figuratively, by the +16.8% yr-yr inflation in Gasoline, the Transportation sector continues to provide a strong catalyst, as does Medical Care, which continues to 'outperform' by posting an +4.3% yr-yr rate of inflation.

Further, the same price push in energy is impacting the Housing component. Note the divergent inflation impetuses to be found in this sector alone:

• Housing ... up + 3.3% yr-yr

• Household Fuel, Utilities ... up + 7.4% yr-yr
• Owner's Equivalent Rent ... up + 2.4% yr-yr
• Household Furnishings ... up + 0.3% yr-yr

Indeed, the +2.4% rise in Owner's Equivalent Rent is DOWN from higher levels posted all of last year, providing us with HARD-CORE EVIDENCE to support the points made in our recent Money Monitor focus on the rise in UN-RENTED homes available for immediate occupancy. Again, to rewind ... the supply of homes available for rent, currently sits at a NEW ALL-TIME HIGH.

Subsequently, we are not shocked to see that BOTH Owner's Equivalent Rent AND Medical Care, now under increasing politically-motivated disinflationary heat, look like they may have peaked, on a year-year basis ... as seen in the chart on display below, coming courtesy of our buds at briefing.com.



Also of interest is the FACT that Service Price CPI has turned down, yr-yr, after FAILING to reach a newer new high during this cycle, JUST AS the two components shown above (Medical and Rent) FAILED, and, offering the SAME dynamic as seen in the failure of Commodity CPI. Moreover, the latter may well have peaked in the med-term, as noted in the chart below.



More 'telling' in terms of the alleged price push at the final demand level, we can only focus on the fact that the BULK of price inflation has materialized in items that are NOT purchased on a 'discretionary' basis.

In other words, higher prices for ESSENTIALS, would threaten consumption of discretionary items ... IF ... there were NO income or wealth reflation.

OH ... does this mean, that at the END OF THE DAY ... without income and/or perpetual wealth reflation, that rising CPI will only serve to squash consumption of other retail finished goods ????

INDEED, it does.

This is our macro-theory ... that a price push WOULD occur, and fail, because of the LACK of income reflation, and a monetarily-induced bluff by wealth reflation, which is becoming increasingly exposed for holding a weak hand.

We shine the spotlight on the data from the Labor Department, released yesterday to FAR LESS 'fan-fare' than the CPI, but in our opinion, a FAR MORE important set of figures, offering insight into the IMPACT of rising prices on the consumer:

• Real Average Weekly Earnings ... DEFLATED for the THIRD month in a ROW, making it three-for-three in the 1Q, with a second, back-back DECLINE of (-) 0.3% for the month. Subsequently, the year-year rate posted its second consecutive month in NEGATIVE, deflationary territory, posted at minus (-) 0.5%

The 'breakdown' was equally disturbing:

• Weekly Hours ... unchanged
• Weekly Earnings ... up +0.3%
• Urban-Clerical CPI ... up +0.6%

MMmmm, sounds a lot like ... gasp ... shhhhhh ... 'stagflation'.

Most importantly ... consumption is at risk ... MORE SO ... if ... the Fed were to follow the rate-hike path laid out by the 2005 Eurodollar strip.

We believe that 'pricing-power' ... is a bluff ... a bluff that will ultimately be 'called' by the consumer, who will CONSUME LESS.

A U.S. consumer who consumes less, PARTICULARLY if a disinflation in housing and stocks becomes more imbedded, which would EXACERBATE a consumption retrenchment ... means a greater risk profile should be 'attached' to global exporters, such as, shhhhhhh, China.

We believe rising prices for essentials increases the level of macro-RISK.

Markets are NOT priced, for a higher level of macro-risk.

For sure, a higher degree of macro-risk would be IMPLICIT within a decline in the 'acutely accurate' Chicago Federal Reserve 'National Economic Activity Index', an indicator to which our long-time readers know we attach great 'credibility'. Note the details of the March Index (positive reading implies positive national economic growth), released this morning:

• March ... + 0.11 ... down from a downwardly revised + 0.22 published for February, which was SLASHED from an originally reported reading of + 0.37. Worse yet, the lowly March reading is FAR BELOW last March's robust reading of + 0.67.

• 3-Month Moving Average (followed by the Fed, as a growth/contraction momentum index) + 0.17 ... more than HALVED from February's reading of + 0.42, and one-third of last March's reading of + 0.52.

Macro-risk profiling is NOT in balance, not as implied by the fundamental data as defined within the Money Monitor over the last several days and weeks ... and, as implied by the market's pricing-profile.

We have noted the fundamental dynamic, as the 'spectrum-stretch', and detailed the risk-complacency via the data on Commercial Bank balance sheets, revealing HUGE spread-bets ... in line with HISTORICALLY TIGHT, ie: LOW, credit-spreads.

Yesterday we detailed the erosion and acute vulnerability in Fannie Mae and Freddie Mac, amid HISTORICALLY TIGHT, ie: LOW, spread quotes.

We have mentioned the exposure in terms of CDS 'protection' purchased by corporate bond holders ... which could implode into an all-out blood bath, as sellers of 'protection' scramble to hedge their own risk.

We see HUGE potential delta-gamma-volatility exposure, in fixed-income and equity markets.

We see ... an INCREASING NUMBER of ... 'active-macro-landmines' ... amid continued complacency, as investors continue to walk-the-walk, through the macro-mine-field.

Let's see, what we see, beginning with 'volatility' itself, and the CBOE Volatility Index, of VXN, on display in the 3-year daily chart exhibited below. Note the exceptionally LOW nominal reading, and early month PLUNGE to NEW LOWS. Then ... note the sudden up-tick, and push above the long-term 200-day moving average, in conjunction with a sharp rise in the 'Volatility' of the Volatility Index, seen in the bottom windowpane.



One of our colleagues asked us yesterday ... what could the result be, of this low volatility environment, where institutions have been noted, long-time, volatility SELLERS ???

Indeed, we can provide personal perspective, ala our experience on the floor of the COMEX in the mid-eighties, when prices collapsed towards $300, and daily trading ranges evaporated from $25 per day, to $3 per day.

Traders struggled to make a living as the means to the types of income traders had become accustomed to (sound familiar, ala the U.S. consumer-equity investor) during the late-seventies/early-eighties bull market in gold, became increasingly hard to come by.

Since gold had mutated into a seemingly bottom-less pit of price decline, headed from $500 to $300 ... traders discovered that selling calls was an easy way to generate steady income.

Volatility fed on itself to the downside ... until ... a banking crisis popped up out of nowhere, as if a land-mine had been detonated, and Gold SKY-ROCKETED far beyond any percentage move in any other related market ... as holders of short-call options got SMOKED, and several firms on the floor, failed. Indeed, the name of one firm still rings loud and clear ... not to mention virulently ironic ... 'Volume Investors' ... which went down in a day.

With that in mind, we press forward to note more signs of crunched volatility, signaling, in our mind, an imbalance to the risk-pricing-profile, which, itself, amid rising macro-risk ... implies ... INTENSIFIED RISK.

Observe the NADSAQ based QQQ-Volatility.



Most troubling of all, is the mini-spike in the Dow Jones Industrial based Volatility Index, seen in the chart below.



Shortening the time frame on the Dow Industrial Volatility Index (VXD), and observing the daily plot on display below, we can more closely focus on the upside push, as best defined by the action surrounding the longer-term 200-day moving average. Specifically, we note that yesterday's steep decline in Volatility HELD right at this MA ... and reversed back to the upside later in the day amid a renewed price decline. More specifically, we note the directional upturn executed by the MA in the last week.



Risk ... risk ... risk ... on the rise ... rise ... rise ...

... ESPECIALLY as applies to the consumer, higher CPI, deflating earnings, and, particularly, the U.S. Housing market. Indeed, after dissecting the earnings report released yesterday by U.S. home builder Ryland Group, we can state with a high degree of confidence, that RISK IS ON THE RISE in this sector, even BEYOND what we thought previously ... case closed.

The headlines are deceiving to the MAX, as Ryland posted ... 'record results'.

Yes, they did. Record high new orders, record revenue, record profits, and a PHAT increase in pretax earnings of +24.9%.

BUT, record new orders resulted in a BARELY POSITIVE year-year rate of growth, pegged at a lowly + 2.7% ... not nearly enough to support another 25% rise in earnings.

Similarly, record 'closings' on properties resulted in ONLY a +3.3% year-year rate of growth, again, NOT enough to support the rise in earnings.

This dynamic becomes important, when we note that the rise in earnings was, according to the company ...

... "primarily attributable to higher sales prices. This was primarily due to a 12.0 percent increase in the average closing price of a home, which rose from $242,000 (end-1Q-2004) to $271,000.

Indeed, building more homes was NOT the driving force behind increasing profits, but, almost SOLELY, a rise in home prices drove earnings. Indeed, the underlying growth in final DEMAND is NOT enough to support a sustained earnings expansion anywhere near 25%.

And there is MORE HARD CORE EVIDENCE from the company to support our thought process, since the Ryland Group also includes Ryland Mortgage, which reported a DECLINE in earnings ... a STEEP decline of (-) 18.5%.

And WORSE yet, while 'Mortgage Origination Dollars' increased by + 11.6% year-year, note the details of the breakdown in growth by component:

• Average Loan Size ... up + 13.1%
• Number of Loans ... down (-) 1.3%

Folks, risk IS on the rise in the housing market, case closed. Note the charts of Ryland Group, first showing the near-term breakdown and MA violation ...



... and the second revealing the long-term weekly plot, in which we can identify a 'raw' Elliot Wave 'count' measuring a five-wave major bull market, one that may be COMPLETED.



Risk is on the rise ... in the mainstream, as seen throughout a broad spectrum of equity market sectors, and individual behemoths.

Risk to the consumer ... indirectly via paper-wealth, AND directly, as per the finished goods demand ... melds together in Walmart, which is breaking down, as noted in the longer-term weekly chart on display below.



How about IBM, begging the questions, why buy it, and, what do they sell ???



General Motors and International Business Machines, throw in ATT and my father comes to mind, as these were THE companies he would follow, when monitoring the stock market, and now, well, the words risk on the rise come to mind. Gee, who'd have ever thunk it, 'Made in the USA', gone to hell.

The 3M Company offers an interesting macro-technical-looking chart pattern, as noted in the weekly chart below, revealing a downside violation of numerous longer-term up trend defining indicators, AND, upside stirrings in the compressed Volatility reading.



Indeed, the decline to historically low levels in the weekly Volatility reading makes the chart on display below all the more intriguing, as we note another 5-wave bull market pattern that may be close to 'completion'. We also note the downside violation of the 24-month moving average, a negative sign.



Finally, we MUST conclude that macro-risk IS on the rise, IF the brokerage shares are going to get 'hit', particularly given the sector's stellar upside leadership and market-outperformance dynamic.

Indeed, risk is on the rise when the big-3 investment boutique stocks are all wobbling at the same time. Observe the somewhat violent downside break executed yesterday by Goldman Sachs, seen in the daily chart below replete with MA violation and negative ROC indicator.



It pains us to show the chart of our alma-mater, Lehman Brothers, but we cannot be biased, and thus we observe the trend threatening breakdown in this stock, as per the chart below. Lehman had possessed one of the 'tightest', most well-defined uptrend chart patterns of all the banks and brokers, and thus the violation of that trend becomes more of a 'tell'.



And ... Bear Stearns, which, unlike the other two, has ALREADY violated its longer-term 200-day moving average ... and ... boasts a rapidly eroding Oscillator position ... and ... reveals a noticeable up-tick in Volatility, from extremely LOW levels, all of which is visible in the chart below.



When we step back, and observe the G-3 major stock indexes, we can easily apply simple GDP economics, to distinguish the degree of upside price correction, relative to the decline from 2000 to 2003.

We note Germany ... with PUNK growth, barely positive, threatening to fall into recession ... and the near-exact 38% Fibonacci retracement.



Next, we note Japan ... in a recession, ala negative GDP results ... which is reflected by the fact that the Nikkei could NOT even reach the first of the Fibonacci retracement levels, AND, has disinflated by the MOST, since the most recent swing peak in the global indexes.



And ... the U.S. ... with its upside GDP outperformance, thanks to Easy Alan Greenspan and the great USD depreciation ... which brought with it a near-61% Fibonacci retracement of the prior bear move, shown in the chart below. Japan rallied the least, Germany in the middle, and the U.S. rallied the most, all of which 'fits' perfectly with the staggered GDP results.



A perfectly 'spaced' sequence of equity market 'reflation' intensity.


BUT ... ALL three countries and indexes FAILED to generate income reflation, and ALL rallies FAILED to exceed CORRECTION defining 'retracement' levels.

Yet, during this same time frame, anxiety related to macro-risk ... disappeared.

Bottom Line: We will 'call' the market's bluff, and wait for the turn-card, when inflation should be 'out-drawn' by declining consumption.

If not, we'll fold em.

Until then, we'll hold em, maintaining our bearish stance in the U.S. equity market, bullish stance in U.S. fixed-income, bearishly viewing several currencies relative to the USD, and bearishly approaching several key reflation commodities, particularly metals.

One last late additional note ... perfectly in synch with today's theme, we observe the action in CONSUMER CREDIT card banking behemoth MBNA Corporation, the company that promotes credit for everyone. Indeed, MBNA may be in need of credit for itself, basis today's SHARP downside gap-and-run decline, which leaves the long-term weekly chart in shambles.




Indeed, we might be tempted to ... 'raise' the bluffer.
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