Tuesday August 24, 2004 - 15:21:37 GMT
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Driving Market Forces: A Turn Lower in Oil is Bad for Bonds, Good for the Dollar
• Perverse as it may seem, a turn in the price of oil lower could very well be inflationary short-term. A fall there would lower costs to companies, and could allow consumers to start spending again. This would permit companies to raise prices, thus pushing up core CPI, even if total CPI eases. And, that is another reason, besides the technicals, why I expect the Fed to be at 2.00% funds by year-end and 2.50%, at a minimum, by June 2005 (even if the economy is pointing to an upcoming recession).
• I might be alone in these thoughts right now, but the market will figure it out. This will take yields higher and could initially help stocks. It will give us a false bout of stagflation, before prices start moving lower. Although I do not truly expect deflation, once prices peak in about six months, disinflation should return, as long as the Fed raises rates. I CONTINUE TO BELIEVE THAT DEFLATION IS STILL A FAR GREATER RISK THAN INFLATION.
• Sentiment is still bearish, short-term, for the stock market. This should support any pullbacks. However, all the longer-term types I see are now saying that the bottom is in and that we've had a flag pattern off the highs, meaning new highs ahead. While this rally should last another month or so and 1,113 might get breached, new highs remain very unlikely to me. At least not before we trade to 950 anyway in the S&P 500!
• The following charts are very clear: Oil and the bond market are topping for now. Both can fall sharply soon, although there is no sign that an actual top is in for either of them. Oil should fall 20-30% from its highs, though the multi-year trend remains higher. As I noted above, the drop in oil will be, short-term, INFLATIONARY and will allow the Fed to RAISE rates as the lower energy help to boost growth.
• The CRB is threatening to break above its multimonth down channel. I had long thought this was possible, but had given up on it. Now that I am mentioning that possibility, it will probably mean the channel holds. Regardless, up side is 290 and down side is 230 or lower. Sell rallies from near the channel.
• I do not see a new high in gold. Period.
• The dollar remains on target for 1.17 to 1.12 versus the Euro in the coming months, although long-term, I remain bearish the buck. This is wave-C down off the dollar's lows this past winter. Some of the recent bid for Euros (and CHF) has ostensibly been due to nervousness over possible attacks at the Olympics and the Republican National Convention. If both events pass without an attack, that risk premium in favor of the Euro and CHF will disappear completely. Technically, the recently ended rally for these two is clearly over and was classically corrective in Elliott Wave terms.
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