It was interesting watching the markets last week. Bad news hit the news wires and stocks headed back towards the recent lows. But there were a couple of things that went under the radar.
If stocks were headed to new lows, fears should be climbing. Fear "graphically" is shown in the VIX (Volatility Index). If investors feel that stocks are going to crash, they increase the buying of put options on many indices, including the S&P 500, on which the VIX is based.. It prices according to what it thinks the volatility in the market will be over the next 30 days.
So, put buying should have gone through the roof as investors saw stocks dropping. After all, if stocks went to fresh lows, investors would make money on their put options, which would help to offset their "buy and hold" portfolio's losses.
However, investors didn't buy up puts like before and the VIX stayed way off of highs hit the last time stocks ran lower.
The TED spread chart did much the same. Stocks were crashing and the economy is still worsening, so this spread should be headed higher since the risk of corporations defaulting on credit should technically increase. However, this headed ever lower as if it didn't realize stocks were headed south and that the economy in the United States and globally was continuing to worsen.
As for currencies, as stocks headed south, the U.S. dollar and the yen should have been headed to fresh highs. Yet both of these currencies just couldn't muster up much strength this time as stocks dove.
So, with volatility dying down, the credit fears as shown by the TED spreads diving lower, and the dollar and yen both softening, that tells me that the big institutions are making a pivotal shift in their portfolios.
It tells me that they believe that the worst is behind them and that greener pastures lie ahead.
Keep in mind that they don't think that the economy is at the turning point yet but rather that it's reached the trough of the recession. So, while there's still more to go, stocks tend to lead the actual economic turn around by three to nine months. Therefore, if they think the economy is going to start to turn around in the next six to nine months, then they position themselves by buying stocks now.
Institutional investors also buy up foreign currencies such as the euro and Aussie dollar, and they start selling their dollars and yen as they lock in profits that they use to pour into these beaten-down currencies.
After all, they think that they now have more upside potential than downside and that the risk to reward is finally there. This couldn't be said in the past year or so, but it can be said now.
Many currency investors have a problem seeing the changing of the tide and therefore will continue to wrongly buy dollars and the yen and sell higher yielding currencies. However, this is where it will bite them.
The flaw of many investors is that they think that whatever is going on now is going to last forever, at least when it comes to how they position their investments.
It's a hard sell to convince most investors that the dollar will go down and that the yen will go down after the stellar year that they had last year. It will likewise be hard to convince these investors that the euro and Aussie dollar are now poised for a much better year in 2009 than they had in 2008. But the transition is coming.
The Fed and Treasury will still continue their aggressive moves to invent creative ways to help to turn the economy around. There will also be another stimulus package coming and the rate cuts from all around the world that have taken place over the past months will finally start to take effect later on this year.
Also, the Obama administration can come out smelling like roses if it aggressively takes measures to turn the economy around. You can be assured they will do this. So, if the economy turns around under the Obama administration, then he's got a great shot at another four years in office, and he knows that.
So, there are a lot of reasons why the United States and the global economy is slowly turning around. The bigger part of it will not be the Obama administration but rather all of the money that's been pumped into these economies from the central banks around the world and the aggressive interest rate cuts that took place all around the world. You see, these rate cuts take six to nine months to start affecting the economy. So, Obama is coming in to his presidency at the best time possible.
These rate cuts will start to have their fullest effect in his first year or two in office, and that's going to help him tremendously as it will also boost the economy.
Savvy investors know this, and that's why they are buying up stocks and foreign currencies now when you can hardly talk anyone in the retail public into getting into any of these. However, historically, those are the best times to invest, when you can't talk anyone else into getting in.
Turn-arounds in both stocks and currencies come when the public least expects it. It starts to see it happen and they just sit back and scratch their heads. They write it off as a fluke thing only to see prices head even higher. Finally, by the time they muster up enough guts to get back into stocks and currencies, we will be near the top once again.
It's too bad that the investing public is almost always late to the ball game. However, I hope that my readers are much more alert and attune to changes going on due to my insights that I share with them.
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