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Jeff Saut: Bullish in the Near Term


In the near term the short dollar and long "stuff" trade has and had become far too popular.


Editor's Note: The following article was written by Raymond James Chief Investment Strategist Jeff Saut. It has been reproduced with permission for the benefit of the Minyanville community.

"Due to the aforementioned observations, we find ourselves asking the question, 'Has the leadership baton been passed to the 4Q07 leaders of utilities, techs, consumer staples, and healthcare?' If so, the daily list of 'new lows' might be a fertile universe for ideas now that we are entering the 'teeth' of tax selling season. While only time will tell, the recent decline 'feels' different than the one we anticipated, and bought at the lows, last summer. Moreover, when interest rates cuts are met by sinking stocks, and a Dow Theory 'Sell Signal,' it always makes us nervous! Nevertheless, 'they' are going to try and talk-up last week's action as a successful 'retest' of the August lows and may just be able to get things going on the upside, which is why we are trading some 'long' indexes like the S&P 500 Geared Fund (GRE) with a close trading stoploss point."
- Jeffrey Saut, written Strategy comment, 11-26-07

"I started reading the Wall Street Journal yesterday (11-26-07) and with each story I got more and more excited. Listen to some of the headlines: Citigroup Feels Heat to Modify Mortgages; Recession Fears Weigh Heavily on the Markets; For Banks the Hurt Just Goes On; Citigroup's $41 billion Issue; Options for Financing Drying Up in Europe; and a picture of the poster child of the whole mess, namely Angelo Mozilo, next to an article titled Where Countrywide Chief Is Finding a Life Preserver. Ladies and gentlemen, these are the types of headlines you see near trading lows! Subsequently (last Monday) I wrote in my notes: This is an incredibly important week for the markets. We had the 17–25 session selling stampede climax low in mid-August followed by the typical sharp throwback rally. Now we are experiencing the envisioned downside retest of those mid-August lows... Longer term, my crystal ball remains hazy for reasons often stated in these comments. Near term, however, the crystal ball is pretty clear and we're looking for a trading bottom setting the footing for the Santa Claus rally... And Monday's downside dump, culminating with a 'I think I'm going to be sick final hour,' may have been that bottom as overnight one of Abu Dhabi's sovereign wealth funds purchased nearly a 5% position in Citigroup (C). This is not an unimportant event for it comes on top of rumors that one of China's sovereign wealth funds is readying a bid for Rio Tinto (RTP) before BHP Billiton (BHP) swallows up Rio Tinto. These moves by such sovereign wealth funds should raise hopes that other sovereign wealth funds will bid for American assets, which are currently on sale for a multiplicity of reasons, and that potentially puts a floor underneath the stock market at least on a short-term basis. Now whatever the reason, we find it surprising, no, we actually find it stunning, that our long trading position in the S&P 500 Geared Fund was up in last Monday's Dow Disaster (237 points) and that only reinforces our sense that we are near/at a tradable low. For the record, we're looking for a trading bottom setting the footings for the fabled Santa Claus rally. Traders, therefore, should act accordingly with close trailing stop loss points because it is better to lose face and save skin."
- Jeffrey Saut, verbal Strategy comment, 11-27-07

Early in my career a wise old wag told me, "When you're right, kid, never let them forget it!" And while I am clearly no longer a "kid," every once in a while I do get something right. I began last week in bullish mode following what looked to me like a successful downside retest of the August lows. Recall that I was bullish at those August lows, but turned cautious in mid-September (see past commentaries), remarking that bottoms tend to be a function of both price and time. And that while we hopefully had met the price requirement, the time component was still lacking, suggesting a downside retest of the recent lows was in order. At the time I cited the market bottoms of 1990 and 1998 whereby the averages peaked in July and sold off into August.

From there they experienced a sharp throwback rally that stalled in the September/October timeframe and subsequently declined into a full downside retest of the August lows. B-I-N-G-O, for almost on cue the markets peaked in that same September/October timeframe and started back down, culminating in what looked to me like a successful downside retest over the last few weeks. While longer term I am still pretty cautious, for reasons often stated in these missives, near term I have been pretty bullish.

To be sure, I agree with the bears that the housing debacle is far from over. I also agree the extent of the mortgage contagion is unknowable and will likely stay that way for months to come despite efforts by the politicos to ameliorate the problem. Moreover, the anti-business, anti-stock market, more taxes political rhetoric is certain to torque-up in the upcoming election year, creating a headwind for stocks. My biggest concern, however, continues to center on the overspent, under-saved, U.S. consumer and the question "Is the consumer finally sated on debt?" If so, the Federal Reserve has a Herculean task ahead of it. So much for the negatives, but what could go right?

First, it can be argued that the housing situation is fairly localized (Florida, California, Las Vegas, etc.) rather than a national problem. Second, as can be seen in the attendant chart, the housing sector only accounts for 4.5% of our $13 trillion economy and consequently won't pull the economy into a recession (it is worth studying the chart, however, to see what happens when residential investment dips below 4.5% of GDP).

Click here to enlarge.

Third, there is an inverse relationship between housing and net exports. As the astute GaveKal organization states:

"A decline in housing tends to be associated with a slowdown in consumption and a weaker dollar. These generate a big boost to net trade. And because the U.S. export sector is almost three times bigger than housing, the growth of net exports more than offsets the losses from housing after a year or two."

Ladies and gentlemen, the recent trade figures tend to confirm that this inverse relationship between housing and net exports is working. Indeed, core exports (excluding crude oil and aircraft) have been rising by roughly 1% a month for the past five months, an occurrence that has never happened before. The upshot of this is that the U.S. economy may just strengthen over the coming quarters, rather than weaken, but as stated, my longer-term crystal ball is pretty hazy right now.

Nevertheless, my short-term crystal ball seems to be working for my downside retest vibes as I looked to buy into last Monday's mauling. The question now becomes, "Is this merely an oversold bounce, or the start of the Santa Clause rally?" While there was a lot of "hair" on last week's rally, we believe the Santa rally has begun. Unfortunately, I also believe this rally will be part of a "topping sequence" for the overall stock market that will eventually validate the Dow Theory "sell signal" of a few weeks ago.

Accordingly, I will continue to "ride" my trading positions while raising their respective stoploss points appropriately. I will also continue to reduce my anti-U.S. dollar "bets" that have made me so much money over the last six years on the belief that the dollar is bottoming. The quid pro quo is that a stronger dollar portends weakness in my beloved "stuff stocks," which is why I have been rebalancing them over the past few months (read: selling partial positions). Longer term I still think the demand/supply equation favors "stuff" (oil, gas, coal, timber, cement, agriculture, etc.), but in the near term the short dollar and long "stuff" trade has and had become far too popular.

The call for this week: Isn't it amazing how the news follows the market? Last Monday I bought the stock market, spurred by my successful retest thesis. Tuesday morning Citigroup got bailed out by Abu Dhabi's sovereign wealth fund and stocks soared. On Wednesday the party continued when the Federal Reserve hinted at lower interest rates. Thursday and Friday proved to be consolidation days buoyed by rumors that the politicos are going to "fix" the mortgage mess. Indeed, when you're right, never let them forget it.

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