Thinning The Ranks

Every good war or suspense flick essentially follows the same plot: the hero(es) or heroine(s), outnumbered, poorly equipped, low on ammo, injured and perhaps even cornered in an impossibly bad situation, proceed to pick off the enemy, one-by one, overcoming adversity to eventually triumph over the evil-doers. It never fails to enthuse and rally hope that good will triumph over evil, right will prevail over wrong. Or in the case of markets, convergence over divergence and rationality (or at least sobriety) over exhuberance.

In "The Great Millennial Post-Tech Bubble Liquidity Trade", Rommel had, until early 2007 proverbially triumphed over the pesky Rat Patrol, as the liquidity complex soared ever-higher after each heart-stopping correction, the strength of correlations amongst instruments increasing over time. Assets of all manner and variety trumped paper, from Commodities and real estates, to emerging market everythings to impressionist masters and Honus Wagner baseball cards. Ever-more-bullish investors looked up the supply chain and down the food chain, to thematic niches and ever-more-obscure corners of the globe, bugger-the-political-risk. Whereas in December 1999 it was homegrocer.com that made specs salivate, or in July 2000, NanoFiberLLightwave Inc which rocked go-go mo-mo investors' world, by 2004 it was mining, commercial property, steel, fertilizer, shipping, China-this, Vietnam-that, chemicals, oil, leading to all precious metals, and yes, into softs such that while the Boskin CPI has barely had a pulse since 2002, the CRB Index has more or less doubled.

For a while, as liquidity itself was still growing (as was its rate of growth), some of the asset sub-classes were out-of-phase, either for random rotation, or cleverness of hedging purrpose, or simply insufficient aggregate specualtive dosh focusing its attention upon "IT" (note: this is not I.T.). But as trends get older, and more pronounced, occupying more pages of Forbes, or Portfolio.Com and then magazine covers, so specs the world over, attractedas they are by the biggest, brightest, gaudiest, most outlandish and outrageously volatile casino on the strip, [ile on and in. And the more the speculative punters focus upon IT, the greater the correlations amongst the asset classes and sub-asset classes become. The internals of the stock market are perhaps no different. The bull is narrow at first, then broadening, then roaringly so, only to eventually narrow before the whimpers or the BANG!

So on the one side we've the dollar and all things tethered to America (and Spanish, Japan-ish, United Kingdom-ish as well as The Land of The Bono). On the other, we have that which is related to liquidty and its growth which is ultimately correlated to China: BRICs & all EMs, mining, commodities, timber, art, antiiques, chamnpagne, energy, precious metals, infrastructure, shipping, real estate, cement, h-beams, bulk chemicals, capital equipment, etc. etc. And the while the swoons have been increasing in magnitude, so too have been the recovery bounces as those who've been margin puked or have "run away to fight another day" pick up the pieces to ramp prices yet again to new-and-unseen heights, courtesy of central banks in general, but the PBoC, BoJ, FRB , MAS, and SNB in particular.

All this is old news, and the patterns are now well-worn and apparent for all to see. Almost. For the liquidity complex IS THINNING. And the narrowing is what is important. Yes its happening amidst probable erosion and eventual recession in the US which has its own implications. But from within the global complex, there are whispers yielding to shouts. First, it was US residential property that went the wayside. Then US commercial property cratered following Blackstone's bell-ringing purchase of EOP. This was followed by global commercial real estate in all but the most bubblicious and under-developed of locations. Next, the lustre came off financials,, and importantly, not just US financials, but also globally. Last week, despite continued rioting in commodities - energy, coal, ag & fertilizers and especially precious metals, we've seen shipping getting slammed, and then steel (so long Posco!), and their related stocks be it stainless, titanium, or their raw materials suppliers like CLF, the king of Taconite. now more than 30% south of where Tourette's-sufferer Cramer touted it to his faithful this past June.

I will admit that I am sympathetic to the unraveling case behind Mr Roubini's US recession call, and the perils of a lower dollar upon global growth, and the recessionary impact of the eventual need to raise more tax revenue in the USA, as well as the increasing market and individual stock volatility, in particular the size of both torpedoes and positive revision changes, the strength of correlations within "the complex" and the visciousness by which the dishonored are spat out. And today, the remarkable trillion-dollar PetroChina telltale, which despite its 2X market cap to XOM, is still but a shadow of the senior-most of the "Seven Sisters". These are all saying something important. But it is the thinning and narrowing of the liquidty complex itself, that observers should take note of, for soon, The Bank of Brothers will have slayed all except for the most precious and speculative of metals along with select EM (maybe just BRIC) equity markets. Then we will see precisely how omnipotent Voldemort really is.