Monthly Market Analytics & Technical Analysis

APRIL 2013 Edition

Since the dotcom bubble era we cannot recall the market being 50.8% overvalued by our methodology.
When we have rarely witnessed this before: volumes were exploding, not falling; sentiment was euphoric
not at the historic low levels we are presently experiencing; businesses were expanding not freezing
capital expenditures; profit margins were rising, not falling; corporate cash flow and EBITDA was
increasing, not decreasing and central bankers were talking about reducing liquidity not further
expanding it. Something is seriously wrong with all the normal measures of the securities industry and
we all know it has to do with the endless expansion of central bank balance sheets. The question is when
will the lunacy end and some sort of normality resume?
Maybe this is the new 'normal' because the unfortunate truth is, any attempt to slow or reduce liquidity
from this addicted market will be catastrophic. Instead we wait until something breaks, and you can
assured this will happen. The global markets are too fragile and not sufficiently robust enough, with too
many untested systems, unregulated counterparties and off balance sheet liabilities lurking in the
darkness. We have a classic, decade long, Head and Shoulders pattern now in place. We are likely to have
a major scare soon, an overreaction by the financial authorities, a reactive rebound, then the realization
by the public that the central bankers are in fact not omnipotent and the global financial system is flawed.
The time is near.

Gordon T Long
4/11/2013

1 April 2013 Edition

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Monthly Market Analytics & Technical Analysis

APRIL 2013
SUBSCRIPTION SERVICE: PLAN IV
BIG PICTURE - KEEPING YOUR PERSPECTIVES ..................................................................................................................................... 7
HIGHLIGHTS - WHAT YOU NEED TO KNOW ..........................................................................................................................................10
SUMMARY ANALYSIS......................................................................................................................................................... 10
Valuation Summary.......................................................................................................................................................... 13
Fed Panics> "QE Unlimited" - ECB Panics> "OMT" Unlimited - Japan /UK Panic> ...................................................... 15
Defining Chart #1 - "Delusional Distortion" Expectations .................................................................................................. 15
Defining Chart #2 - Long Term ......................................................................................................................................... 16
Defining Chart #3 - Short Term ........................................................................................................................................ 17
Defining Chart #4 - Short Term ........................................................................................................................................ 19
OUR APPROACH - MACRO ANALYTICS ...............................................................................................................................................23

............................................................................................................................................................... 24
APRIL 2013: Global Macro Drivers ..................................................................................................................................... 25
DRIVER: Real Wealth, Commodities & Dr Cooper ........................................................................................................... 26
DRIVER: Carry Trade & the : Cross .......................................................................................................................... 29
DRIVER: Currency & Forex Markets ................................................................................................................................ 37
DRIVER: Yield, Spread & Credit ...................................................................................................................................... 41
RECIPIENT: Global Equities ............................................................................................................................................ 43
RISK: Risk-On versus Risk-Off........................................................................................................................................... 44
RISK: Rosenberg Sees Signs of Overbought Market ....................................................................................................... 44
RISK: Market Risk ........................................................................................................................................................... 45
RISK: Weakness Below the Headline Numbers ............................................................................................................... 48
RISK: Quickly Escalating Risk.......................................................................................................................................... 49
RISK: Increasing Levels of Market Risk ........................................................................................................................... 51
RISK: Dark Pools Now 40%, Internalization 60% Of Off-Exchange Trading to Avoid HFT............................................... 52
TECHNO-FUNDAMENTALS ................................................................................................................................................ 54
PATTERNS: Long Cycles ................................................................................................................................................ 54
PATTERNS: Contrarian Indicator Suggests Upside Potential........................................................................................... 55
PATTERNS: US & Japan Total Returns the Only Positives .............................................................................................. 56
PATTERNS: Rising Cash Allocations ............................................................................................................................... 57
PATTERNS: Over the last two years declines in bullish AAII sentiment have preceded drops in the equity market. ......... 58
PATTERNS: Small Investors Edging Into Market Afraid to Miss Rally .............................................................................. 59
PATTERNS: Investors Expecting a Correction ................................................................................................................. 61
PATTERNS: False Belief In Central Bakers Creating Complacency................................................................................. 62
PATTERNS: French & Chinese Markets have not Recovered .......................................................................................... 64
PATTERNS: A Computer Driven Market .......................................................................................................................... 65
PATTERNS: OBV Suggesting Rally Extends into April .................................................................................................... 66
PATTERNS: Complacency Much too High! Setting Ourselves up for A Shock ................................................................. 68
PATTERNS: Volume Completely Disconnected from Market Action ................................................................................ 69

OUTLOOK - ANALYTICAL ANALYSIS .....................................................................................................................................................71

STUDY: A WOLF WAVE/MEGAPHONE TOP ...................................................................................................................... 71
STUDY: Q1 EARNINGS PREANNOUNCMENTS ................................................................................................................. 76
EARNINGS - Can the Banks Save Q1 Earnings? ............................................................................................................ 76
EARNINGS - Elevated Negative Pre-Announcements ..................................................................................................... 81
EARNINGS - Six Charts Ahead of the Earnings ............................................................................................................... 82
EARNINGS - Investors Ignore Negative Pre-Announcements .......................................................................................... 86
STUDY: VALUATIONS......................................................................................................................................................... 87
VALUATIONS - CAPE and TOBIN Suggest 50 Percent Overvalued Markets................................................................... 87
VALUATIONS - Expect Contraction in Earnings over the next 4 years at a rate of roughly 12% annually. ........................ 89
VALUATIONS - Historical Forward Operating PE ............................................................................................................ 91
VALUATIONS - Historically High P/E10 Ratio .................................................................................................................. 91
VALUATIONS - Shrinking Cash flow Growth Rate By Most Corporations ........................................................................ 92

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VALUATIONS - Profit Margins Tumbling as Predicted ..................................................................................................... 92

VALUATIONS - Price to Forward Earnings at Long-Term median - and Highs post-crisis. ............................................... 94
VALUATIONS - Dissecting Various PE Ratio Alternatives ................................................................................................ 96
STUDY: MACRO CORRELATION ..................................................................................................................................... 100
MACRO - Divergence Supports "Rolling-Over" Pattern .................................................................................................. 100
MACRO - REDUX: Trouble Coming to Paradise ............................................................................................................ 102
STUDY: CENTRAL BANKS ASSETS versus GOLD ......................................................................................................... 103
GOLD - The $210 Per Oz., Per $1T, of Central Bank Asset Expansion .......................................................................... 103
GOLD - What OMF Means for GOLD ............................................................................................................................. 104
GOLD - A Secular DOW Ratio Trend ............................................................................................................................. 106
STUDY: A Broken Fed Model ........................................................................................................................................... 108
FED MODEL - No Longer Prices Risk ............................................................................................................................ 108

SHORT TERM TECHNICAL ANALYSIS .............................................................................................................................................. 114

SUPPORT & RESISTANCE ............................................................................................................................................... 114
Gann Analysis................................................................................................................................................................ 114
Boundary Conditions...................................................................................................................................................... 115
Channels & Regressions................................................................................................................................................ 117
Fibonacci - Controlling Time Extensions ........................................................................................................................ 119
Elliott Wave.................................................................................................................................................................... 123
SENTIMENT - Consumer, Investor & Trader .................................................................................................................... 131
Consumer Confidence - Conference Board .................................................................................................................... 131
Consumer Sentiment - Michigan .................................................................................................................................... 134
Consumer Comfort......................................................................................................................................................... 135
Investors Intelligence ..................................................................................................................................................... 136
American Association of Independent Investors ............................................................................................................. 136
National Association of Active Investment Managers (NAAIM) ....................................................................................... 137
Small Business Optimism .............................................................................................................................................. 138
Smart Money / Dumb Money Confidence ....................................................................................................................... 139
Percentage Stocks Above 50 & 200 DMA ...................................................................................................................... 140
Margin Levels ................................................................................................................................................................ 141
Mutual Fund Cash Levels v S&P 500 ............................................................................................................................. 144
OSCILLATORS & BREADTH: Indicators of Importance................................................................................................. 146
NYSE Overbought / Oversold ........................................................................................................................................ 146
OEX Open Interest (Puts/Calls) ..................................................................................................................................... 147
TRIN .............................................................................................................................................................................. 148
McClellan Oscillator ....................................................................................................................................................... 149
STUDY: UNCERTAINTY & COMPLACENCY .................................................................................................................... 150
SENTIMENT: EU Consumer Sentiment Telltales ........................................................................................................... 150
SENTIMENT: Mispricing Uncertainty ............................................................................................................................. 152
SENTIMENT: High Level of Complacency ..................................................................................................................... 153
SENTIMENT: Uncertainty Always Stops Business Investment ....................................................................................... 154
SENTIMENT: Consumer Confidence Plunges After Election as Fiscal Cliff Realization Faced. ...................................... 156
SENTIMENT: Abruptly Plummets: Post Election, Sandy and pending Fiscal Cliff ........................................................... 157
SENTIMENT: Uncertainty .............................................................................................................................................. 158
SENTIMENT: Market Not Prepared for Fiscal Cliff Disappointment! ............................................................................... 159
SENTIMENT: Fiscal Cliff Uncertainty Parallels With Debt Ceiling Negotiations (The "Holy Shit" Moment) ...................... 161

INTERMEDIATE TERM RISK ANALYSIS.......................................................................................................................................... 165

RISK SUMMARY- Aggregated Global Financial Risk Index ............................................................................................ 165
AGGREGATED GLOBAL FINANCIAL RISK INDEX.......................................................................................................... 165
BANKING RISK - LIBOR-OIS SPREAD (Updated) ........................................................................................................ 166
BANKING RISK - TED SPREAD (Updated) ................................................................................................................... 166
CREDIT RISK - GLOBAL CREDIT DEFAULT SWAPS (Updated)................................................................................. 167
CREDIT RISK - EU CREDIT DEFAULT SWAPS (Updated) ........................................................................................... 168
CONSUMER RISK - HOUSING - RATE OF CHANGE (Reference) ............................................................................... 169
ECONOMIC RISK - ECRI LEADING INDEX (Updated).................................................................................................. 170
INFLATION RISK - MONEY SUPPLY GROWTH - M3 (Updated) .................................................................................. 171

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INFLATION RISK - MONEY VELOCITY (Updated) ........................................................................................................ 172

MONETARY RISK - BANK LIABILITIES (Updated)........................................................................................................ 172
COST OF MONEY RISK - INTEREST RATES (Updated) ............................................................................................. 174
AGGREGATED RISK LEVEL............................................................................................................................................. 176
Risk .................................................................................................................................................................................... 177
RISK: 1970 Pattern Comparisons See 20-27% Correction in H2 .................................................................................... 177
RISK: The Bond Bubble the Next to Burst, A Panic into Stocks...................................................................................... 179
RISK: Collateral considerations are a joke and Loans are Disguised ............................................................................. 180
RISK: Citigroup Economic Surprise Index has moved below Zero.................................................................................. 182
RISK: Key Market Warning Signals Triggered ................................................................................................................ 183
RISK: Nearing End of Short Squeeze ............................................................................................................................ 184
RISK: Shift in Perceptions & Market Optimism Reflected at Davos ................................................................................ 186
RISK: Bonds Most Overbought in 55 Years ................................................................................................................... 187
RISK: A Final Parabolic Lift to 1550 to 1570 in the SPX before Major Capitulation ......................................................... 188
RISK: Brace For A Stock Market Accident ..................................................................................................................... 190
RISK: Excess Euphoria .................................................................................................................................................. 192
RISK: Money is ALL IN .................................................................................................................................................. 194
RISK: VIX - Cost of Risk Plummets ................................................................................................................................ 197
Cassandra's - New Additions to the List ......................................................................................................................... 199
Cassandra: Byron Wien Warns "Oblivious Markets" Of 20% Correction ......................................................................... 199
Cassandra: Harry Dent Warns Stocks to Sink More than 60% by End of 2014............................................................... 199
Cassandra: Stanley Druckenmiller: "When You Get This Kind Of Rigging, It Will End Badly" ......................................... 200
Cassandra: Mohamed El-Erian: "Prices Are Artificially High - Its Time to Take Profits".................................................. 201
Cassandra: Felix Zulauf: World Headed Toward 1987 Style Market Collapse ................................................................ 202
Cassandra: Doug Kass: 'I'm Getting The Summer Of 1987 Feeling' In The Market Right Now ....................................... 202
Q1 - Canaries ..................................................................................................................................................................... 204
Q1 Canaries: The Equity 'Air-Pocket' And 5 Reasons To Worry ..................................................................................... 204
Q1 Canaries: 12 Things That Just Happened That Show The Next Wave Of The Economic Collapse Is Almost Here ... 214
Q1 Canaries: A Mad Rush Could Be Coming In The Corporate Credit Markets ............................................................. 216

LONGER TERM - FUNDAMENTAL ANALYSIS....................................................................................................................................... 221

HIGHLIGHTS ...................................................................................................................................................................... 221
Valuation Summary........................................................................................................................................................ 221
Earnings > Margins > PE > Valuation............................................................................................................................ 223
Three Major Disappointments ........................................................................................................................................ 224
Three Evident Themes ................................................................................................................................................... 225
Peek Earnings & Peek PE ............................................................................................................................................. 227
Equity Valuation: The Surprising PE Ratio Regime You MUST Now Watch .................................................................. 228
What to Watch in Q1 ...................................................................................................................................................... 231
VALUATION: Alternative Methodologies ......................................................................................................................... 232
Four Set Consolidated Market Valuation Indicators: Overvaluation Relatively Unchanged ............................................. 232
Crestmont from the Arithmetic........................................................................................................................................ 234
Cyclical PE 10 Ratio ...................................................................................................................................................... 236
Q Ratio .......................................................................................................................................................................... 240
S&P Composite Regression-to-the-Trend ...................................................................................................................... 245
REFERENCE METHODOLOGIES ANALYSIS .............................................................................................................. 246
S&P Fair Value .............................................................................................................................................................. 254
Rule of 20 ...................................................................................................................................................................... 260
Cyclically Adjusted PE's (CAPE) are Richly Valued........................................................................................................ 261
Value Line Arithmetic ..................................................................................................................................................... 262
Shiller PE Ratio.............................................................................................................................................................. 262
Comments on Estimated Forward Operating Earnings ................................................................................................... 263
S&P Earnings Yield versus Bond Yields................................................................................................................... 264
VALUATION: Situational Assessment ............................................................................................................................. 265
Valuation: Earnings, Valuations, Dividends and Buybacks a Problem ............................................................................ 265
Valuation: Unencumbered DCF -- Free Cash Flow is KING! .......................................................................................... 268
Valuation: S&P 500 Between 40-70% above Pre-Bubble Valuation Norms .................................................................... 269
Valuation: Hope Priced In .............................................................................................................................................. 273
Valuation: Median NTM PE ............................................................................................................................................ 274
Valuation: Inflation Adjusted Earnings ............................................................................................................................ 275
Valuation: PE Expansion Possible, though Likely Temporary ......................................................................................... 276

4 April 2013 Edition

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Valuation: PE Compression In Process .......................................................................................................................... 278

Valuation: PE Ratio Election Year Trends ...................................................................................................................... 279
Valuation: The Shiller P/E .............................................................................................................................................. 280
Valuation: Foreign Profits Kept Untaxed Offshore .......................................................................................................... 283
Valuation: Downward Revisions Accelerating................................................................................................................. 284
Valuation: Forward Guidance Significantly Lower than Reported Strength ..................................................................... 287
Valuation: Equity Valuations: It's All Downhill From Here ............................................................................................... 289
Valuation: Earnings Continuing to Weaken without much Media Fanfare ....................................................................... 291
Valuation: A Different Earnings Season. ........................................................................................................................ 292
Valuation: Government Spending Driving Profits: Artificially High Margins .................................................................... 294
Valuation: Inflation Expectations - Markets Mistakenly Expecting Growth & Profit To Accompany It .............................. 295
Valuation: Major Warning Needs Heeding: FedEx......................................................................................................... 296
Valuation: What We Called for Is Beginning To Show .................................................................................................... 298
Valuation: Equities as a Matter of Belief ......................................................................................................................... 303
Valuation: The Charts Wall Street Doesn't Want You To See On Annual Returns .......................................................... 306
Valuation: Some Sobering Japanese Comparison Charts from Michael Darda at MKM Partners ................................... 311
Valuation: Are Corporate Profit Margins About To Grind Lower For Another 10 Years? ................................................. 314
Valuation: Corporations Have Captured 88% Of All Post-Recession Income Growth ..................................................... 315
Valuation: Think Stocks Are Cheap? Here's 7 Reasons Why That's A Myth ................................................................... 316
PE CONTRACTION - Situational Assessment ................................................................................................................. 317
We Have Been Warning, Now Here it is ................................................................................................................. 317
PE Ratio: Expansion, Then Contraction ......................................................................................................................... 320
PE Ratio: The Four Regimes of Equity Valuation ........................................................................................................... 321
PE Ratio: Since 2010, valuations have moved with Non-Investment grade (B) yields .................................................... 324
PE Ratio: PE's Are At Historically Elevated Levels ......................................................................................................... 326
PE Ratio: Signs of Peek PE ........................................................................................................................................... 327
PE Ratio: The Four Regimes of Equity Valuation ........................................................................................................... 328
PE Ratio: Since 2010, valuations have moved with Non-Investment grade (B) yields .................................................... 331
PE Ratio: Have Significant More Room To Compress .................................................................................................... 332
PE Ratio: Over Next Year Trailing PE to be Below Generational Norm. ......................................................................... 334
MARGIN COMPRESSION - Situational Assessment ....................................................................................................... 337
Compression: Cost Push now Creating Margin Compression! ....................................................................................... 337
Compression: Corporate Earnings - Signals of Margin Compression ............................................................................. 341
Compression: Expect Further PE Compression: Margin Squeeze ................................................................................. 346
Compression: Shifting Secular Sands - Emerging Impediments to Global Earnings Growth Rates................................. 348
Compression: Corporate Margins - 2013 Margin Expectations Not Credible .................................................................. 349
Compression: Profits Have Stalled. Has the Market? ..................................................................................................... 350
EARNINGS - Situational Assessment .............................................................................................................................. 352
Q1 Earnings - Outlooks Being Brought Down................................................................................................................. 352
Q1 Earnings: 2013 Top-Down & Bottom-Up................................................................................................................... 352
Q1 Earnings: 2013 Earnings To Be Less Than 2009 Earnings Projected To Be In 2007 ................................................ 355
Q1 Earnings: Classic Hockey stick of False Expectations .............................................................................................. 357
Q1 Earnings: Bearish Corporate Guidance Threatens Q1 Profit Growth Estimates ........................................................ 360
Q1 Earnings: Retailers Report Solid Q4 Profits, But Q1 Outlook Dims Still Further ........................................................ 362
Q1 Earnings: Analysts Apparently Surprised? ................................................................................................................ 364
Q1 Earnings: Wage & Profit Disparity - Peak Profits, Trough Wages ............................................................................. 366
Q1 Earnings: Resting In a Few Tired Hands .................................................................................................................. 367
Q1 Earnings: Overstated Due to the Magnitude of One Time Write-Offs ........................................................................ 371
Q1 Earnings: 10 Tired Generals Carrying the Market ..................................................................................................... 373
Q1 Earnings: Interest Rates Determined by Future Inflation & Growth ........................................................................... 374
Q1 Earnings: Only 30% of firms Beat Revenue Estimates. 65% Beat Earnings ............................................................. 376
Q1 Earnings: Global Market Comparisons ..................................................................................................................... 377

S&P 500 TARGETS ..................................................................................... 378

EXECUTIVE BRIEF ..................................................................................... 380

5 April 2013 Edition

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