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Fleck Rap



Note: Professor Fleckenstein provides his commentary every Wednesday evening for educational purposes - his insights are not intended as investment advice. You can find his daily comments at

Liquidation Rules the Day

Today witnessed huge volatility in commodities and serious cross-currents in stocks/bonds. I will try to do justice to what happened and why, in an attempt to make some sense out of it all. Last night before turning off my screen, I noticed that several Chinese banks said they'd curtailed lending until May 1, in cooperation with their government's wish to slow the economy a tad. Hardly any market I looked at was much affected by this news, so I didn't think much of it. Besides, May 1 is just days away.

But by the time I turned on my screen this morning, a lot had changed. A couple hours before stocks opened, base metals and precious metals were under serious pressure. That pressure intensified as the morning wore on, as the triple fears of a China slowdown, a rate hike here, and a higher dollar combined with lots of leverage to induce serious panic in various markets. (More about leverage below.)

Fear Commandeers the Markets

With commodities swooning, one might have expected fixed income to be bouncing, but that was not the case. Stocks were also sinking, after having opened to modest pressure. Oddly enough, tech was the one area trying to hold together in the early going, while leveraged financials like Fannie Mae were really heavy. It was one of the more confusing mornings I've seen in a while. Not that markets have to make sense every minute of the day, but it's usually possible to discern a theme, whereas today, the only theme I could discern was serious liquidation. Of course, given the 8,000 mutual funds and the 8,000 hedge funds out there, powered by a short-term performance-oriented crowd, the motion they generate shouldn't come as any big surprise.

One reason why commodities come in for bludgeoning like this is that the operators in this arena tend to be so leveraged, which sometimes creates the type of air pockets we've seen. Folks should think about what this may mean someday for real estate, another leveraged market (though an illiquid one), the illiquidity tending to mean that things could get even nastier. A few things real estate does have in its favor: no margin clerks, folks don't get marked to market, and historically, the dislocations in real estate have been few and far between. But I think those lessons have been "learned," and the next lesson will be to correct the imbalances that have been created.

Back to the action in equities, after the early-morning swoon, a bounce was attempted on the back of tech's machismo, but it soon fizzled. We slid some more later in the day, as most heretofore-green tech stocks turned red. Meanwhile, the selling intensified in cyclicals, financials, housing stocks, and former highfliers like TASR, which was down about 15%. We closed near the lows, and almost nothing was spared.

Crimson-Tide Time?

It does feel and look to me more and more like the top is in for equities, and we are having a series of failing rallies off the top. Though we've also had a handful of straight-up moves (witness last Thursday and yesterday), they have petered out pretty fast. I think the stock market is definitely on borrowed time. When it starts to slide, I believe that the economy and the housing market will follow in rather short order, as will the dollar, which is the key to the black-and-blue precious metals market (not advice - simply my view).

Metals Ride Downtown Express

Away from stocks, silver closed down about 6% to $5.89, and gold closed down about 3% to $386. Precious-metal equities like Pan American Silver (PAAS:NASD) and Newmont Mining (NMEM:NYSE) were thumped on the back of this. (The latter reported quarterly results today.) Comparing year-over-year gains, I was initially somewhat surprised that they weren't better. But after stripping out the special features, it looked like Newmont earned 30 cents, vs.19 cents last year, at least on an operating basis. Further, its cash flow was up pretty substantially year-over-year. Bottom line: Newmont had a decent quarter, if nothing great, though I don't own precious-metal stocks for quarter-to-quarter operating performance.

That said, it has been frustrating to see these metal stocks give back as much as they have, and based on emails I have received, I know that other readers share this frustration. But it's important to keep one thing in mind: I own Newmont, Pan American Silver, and these metals because of my concerns about the ultimate pressure the dollar will see when the stock market, the economy, and the real estate market experience the problems that I expect.

Comfort in a Catalyst to Come

In some ways, the metals' big run was a free look (precipitated apparently by speculators who liked the action, and liked what was happening in China, etc). The reasons why I want to own metals have yet to play out, so I guess that in some ways, I can't be too upset by what's happened. Though it's never fun to see one's paper profits diminished, my desire to own the precious metals remains intact.

Meanwhile, the dollar could see more upward pressure tomorrow if the GDP report is a good one, which folks expect. However, we may now be approaching the moment in time that I have been awaiting for months, i.e., the end of the move for the dollar.

Lastly, the violence witnessed in precious metals is all part of what happens at the end of moves. That said, I sure didn't expect this much damage to be done, as I assumed the metals had a monetary "bid," not a China one. As I've often noted, precious metals can be very volatile, and likewise precious-metal stocks. Folks have to factor that into their decision-making process. Please remember: My comments are about probabilities and managing risk around long-term ideas -- not, as I have demonstrated, about clairvoyance.

Opting Out of Opportunity

Nonetheless, I believe that when the dust settles, we'll look back and say, wow, can you believe those metals got puked up so hard (on a China "play" washout) at that moment in time? It was exactly the time you were supposed to have bought them. Unfortunately, Mister Market has a way of twisting things around, such that when opportunity arrives, you're so glad just to have the pain end that you often don't feel like doing anything about the "opportunity."

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