Weekly Update

After the recent joy in the financial markets, it seems as though an intermediate trend reversal is upon us. Over the following weeks, the US Dollar, Japanese Yen and US Treasuries should rally and everything else is likely to decline.

Over the past two months, global financial markets rebounded sharply and they seem to have run ahead of the economy. Today, there is a lot of hype about the 'green shoots' and risk appetite has returned with a vengeance. Consider the following:

a. The US$ has fallen sharply over the past few days
b. US government bond yields have risen sharply
c. Major world currencies (Aussie, Canadian etc.) have risen sharply
d. VIX has collapsed
e. Credit spreads have narrowed
f. LIBOR has declined to 0.73 bps

Most importantly (and worryingly!), there seems to be a widespread belief that the actions of the policymakers have stabilised the economy. At this stage, nobody knows whether this is true but the financial markets have fully discounted this outcome. So, if the much-anticipated second-half recovery doesn't take place, financial markets will probably weaken over the summer months.

After the horrific crash last autumn, we certainly don't want to be caught in the eye of the 2009 storm! Accordingly, we are liquidating roughly half of our 'long' positions in order to capture the recent gains and limit the downside over the tricky summer months. Now, if the markets continue to head higher, roughly 50% of our clients' capital will still participate in the advance. However, if do get another sell-off over the coming weeks, only half of our clients' capital will be exposed to market risk. Once the market risk has subsided and the correction has run its course, we will re-invest capital in our preferred growth producing assets.

Based on the market action over the past few days, it seems to us that a multi-week correction has now commenced. The Dow Jones has recently formed an important double top and it has broken below its rising uptrend channel. Usually, such breaks are followed by further declines and it looks as though the Dow Jones may fall to the 7,400-7,500 area. Moreover, the Japanese Yen has started to strengthen again and this is a negative omen for the financial markets. If the economic news and credit conditions worsen, the Dow Jones may fall even further than the above estimate. So, we are protecting our clients' capital by selling into this strength. It is our firm belief that taking some money off the table at this juncture is prudent and will give us the opportunity to re-invest at lower levels.

In summary, we suspect that stocks, most commodities and precious metals will decline over the following weeks. Accordingly, our advice is to sell at least half of your 'long' holdings into this strength. If a correction unfolds, it will be positive for the US Dollar and Japanese Yen so we suggest that you keep cash in these currencies over the summer months. Longer-term, we prefer the Canadian and Australian Dollars but they've gone up too much too quickly and may fall over the coming weeks.