One more week of Market Stress, followed by a Relief Rally?
An update of the weekly daily treasury statement charts for 26/6/11. If we take the lagged indicators (very) literally, we must conclude that the so-called ‘risk assets’ could experience one more week of downward stress followed by a relief rally lasting a few weeks.
Over the past week, the total operating balance of the US Treasury (i.e. the dollar amount in the ‘US Treasury’s bank accounts’ – if you will) has remained roughly flat (falling $4 billion by Thursday). Moreover, the US Treasury didn’t receive any deposits from the proceeds of Mortgage-backed securities sales.
The long-term interpretation of this chart remains bearish. The private-sector reached a maximum capacity for leverage in 2007/2008, and has been in the process of de-leveraging ever since. Since debt can be seen as a ‘short on money’, we might say that the economy is experiencing a long-term ‘short squeeze in dollars’. Although it may be in poor taste to do so, the government can temporarily alleviate the stresses involved with this short-squeeze by levering up, itself. Just as with every other ‘short squeeze’, the woes of the short-sellers (who must buy back to close) are alleviated by a massive & unanticipated seller entering the market. In the case of this ‘short squeeze in dollars’, that big seller was and is the US Treasury, and — as can be seen from the chart above — it has stopped selling dollars for a while. So, one can only expect financial stress to reassert itself as a result (which — indeed — it has!).
There also happens to be an alarming correlation between the US government’s spending and the stock market on a shorter-term basis. Fortunately for us, the correlation operates on a lagged basis, and so can be predictive (if precariously alchemistic). As can be seen from the charts below, they suggest that the current market stress could persist for one more week before reversing for a relief rally. The broad thesis is that net government spending is bullish for asset prices (on a lagged basis) and net accumulations of cash are bearish for asset prices (on a lagged basis). For a more detailed interpretation of these charts see here.
Recommended: Charting the Federal Reserve's Assets - 1915 to 2012