On Preparedness

My leaky roof is no concern to me,
the sun is shining 

“Hey Dad,” Daughter #1 writes, “What is up with Money Markets right now? I have heard something about them being riskier than before. Most of our IRAs and 401Ks are in Money Market now. Is there a better choice?”

Good question. Money market funds are designed to serve two purposes: preservation of capital and liquidity. The funds’ assets are short term loans to governments and institutions. The loans, commonly known as commercial paper, have maturities of thirty to one hundred days. With maturities this short, there is little if any price fluctuation, and the fund can refrain from reinvesting the proceeds of maturing loans to allow cash to come into the portfolio to meet the liquidity requirements of investors.

The higher the quality of the commercial paper, the safer the fund. As is normal, the higher the quality of the fund, the lower the fund’s yield. Because Cindy and I want maximum capital preservation and maximum liquidity, we accept lower yields. These days, that means practically no yield.

That’s OK with us because we are holding these funds to reinvest in stocks at a market low. That low promises to come during a systemic failure in the financial markets. During a period like that, anything with even a whiff of risk will cause problems for the investor.

Money market investors got a big scare in 2008 when one of the riskier funds had  a series of defaults in the fund and stopped cash redemptions to their investors. This caused a panic throughout the money market industry, with thousands of investors staging a run on their funds. For the most part, the mutual fund companies met the rush of redemptions with their own capital. Next time might not be so easy. I want to be prepared for total panic in the next crash.

The best option is to buy 90 and 180 day Treasury bills through a brokerage account. This is usually not an option for 401k accounts, which is the case for Cindy’s 401k. I reviewed the portfolio of her money market fund a couple of years ago, looking for an aggregate rating on the paper of P1.5 (Google FRB Commercial Paper Ratings for info). I felt it was OK then, but will look at it again. We may transfer a part of that account to an IRA she has at Vanguard so she can buy Treasuries.

The SEC has just established some new rules in an attempt to “protect” money market investors in the event of a systemic breakdown in the markets. They include requiring a 10 day delay for redemptions and a 2% redemption charge. That’s not even a half-way good idea. Restricting my liquidity just when I want the access to switch to stocks is exactly what I don’t want. And, forget about a redemption charge.

Obviously, the time to insure our liquidity is now, before things get dicey.



No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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Essay on a Boring Subject

This is gonna suck: 538 words about another frickin’ bubble in the debt market. I would rather eat glass than even think about it. If you feel the same, just peer at the chart below and then head off for the beach (whence I shall very shortly be).

Bank Loans

Believe me, it was torture, but yesterday I made myself wade through the Executive Summary of the Spring 2014 Semiannual Risk Perspective, issued by the Office of the Comptroller of the Currency. Gloomy reading.

While damning the economy with faint praise (economic fundamentals showed modest…blah, blah, blah), the tone of the report was harsh on bank lending, which has gone through the roof this year without resulting in economic growth, as lending standards have fallen back to the risky levels of 2007.

Two of the biggest borrowing sectors today are the oil fracking industry and companies owned by the private equity guys. The frackers are on an awful treadmill. Well life for fracked wells is so short, the drillers can’t pay off the loans on many wells before they go dry, so they keep borrowing both to pay previous loans and to keep drilling. This is a death spiral in the making, destined to leave your bank loaded with non-performing loans at the first sign of a drop in oil prices. At least the drillers are trying to do something good for the country.

The private equity guys, on the other hand, are doing things that ought to get them taken out to the parking lot and shot. Writing about these guys makes me want to punch a hole in the drywall, so I won’t. You can read about their practices at the link at the end of this essay.

At the end of a market cycle, they make leveraged loans with their companies, which means they get bankers to loan them money against company assets that are already pledged against loans. The purpose of these loans is to pay themselves rich dividends, even while saddling an already debt encumbered company with unnecessary debt. You would think company owners (and their dumbass bankers) would be more cautious. Not in these cases. Private equity investors milk the companies they buy for all they can. If the company goes bust, tough bananas. They are already out with handsome returns themselves.

Not one bit of value has been added to the companies, but at the next downturn you can be sure there will be banks stuck with bad loans looking for a taxpayer bailout.

The Comptroller of the currency is not happy, but he has no power to reign in the banking industry. The Fed seems to be encouraging this madness. And it is irksome to be reminded that market tops are confirmed when bankers are falling all over themselves lending money to people who will not be able to pay it back.

Meantime, President Obama sends me an e-mail extolling his job creation and economic growth, while the CEO of Wal-Mart says shoppers aren’t returning at the pace one might expect years after the recession peaked, despite data showing this growth (Market Watch, July 9, 2014). What’s the real story?

Told you this was a bummer of a read.



Article on private equity practices:

http://www.boiseweekly.com/boise/lbo-no-more/Content?oid=1013667 .


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Meditation on How Things Work

Everything is new. And we are living among events so singular
that old people have no more knowledge of them,
are no more habituated to them,
and have no more experience of them than young people.

We are all novices, because everything is new

—Joseph Joubert, 1797

Take the telephone, now. Used to be a heavy black object made of Polyoxybenzylmethylenglycolanhydride-Bakelite, for short. Early plastic. Portable, so long as you didn’t take it any further than the length of the cord that attached it to the wall. Go beyond that and you broke your connection to the world.


Remarkable device. Once, in Mexico City, while home from college on Spring break, I called my girlfriend all the way in New Orleans. Great connection, but my Dad nearly had a heart attack when he got the phone bill.

The phone I have now is housed in new plastic. Polycarbonate. It’s a smartphone and it is not attached to anything. Kids take this for granted. I do not see how the damn thing works without being wired to a wall. But it does, and I can call my grandkids in Costa Rica for practically nothing.


This is comic book stuff. Dick Tracy had his 2-way wrist radio, but I knew that was make believe. And it gets even more bizarre: I buy a car the other day and the salesman “pairs” my phone to something called Bluetooth in the vehicle. Now, when somebody calls I don’t even take it out of my pocket. I talk to the air and whoever is calling answers back somewhere in the dashboard.

According to the manufacturer, I can do 1 million other things with the phone. Just download the 1 million thingies they call “apps” and I’m good. I promise I’ll do this, just as soon as I have time.

We do adapt, and we do swiftly take all this amazing technology for granted. And when the rate of innovation is accelerated like now, we can easily believe this implies an ever growing economy. Would that it were so.

Innovation is the result of tinkering. It goes on all the time. When it happens during bad times, it goes unnoticed. During good times, and especially during financial bubbles when optimism is high, it is held to be the reason the economy cannot fail. But it can, and does.

The governing factor in the economy is not innovation. It is human behavior, which is cyclical. The cycle is immutable because, as my Marine Corps gunnery sergeant used to say, human beings are the most fucked up people in the world. Not happy leaving well enough alone, we eventually overreach.

The cycle plays out, approximately, as shirtsleeves to shirtsleeves in three generations. The generation that came into the workforce late in the Great Depression had to roll up their sleeves and dig the country out of the disaster they inherited. That was the Greatest (luckiest) Generation. They, in turn, passed a debt free, vibrant, growing economy on to their kids, the boomers.

The boomers’ have been in charge for the last thirty years. Look around: is there anything of importance besides your smartphone that is not totally, irretrievably fucked up? Unprecedented debt weighs the economy down, policymaking in the nation’s dysfunctional capital serves big corporations, big banks, and big government. The rest of the country sucks wind.

It’s all coming down. The function of bear markets is housecleaning. Boomers will be broke and out of power by the end of the decade. Their kids will be the third generation, the one that takes the brunt of a final collapse in the nation’s affairs.

The millenials, already beset by the effects of the long mismanagement of the country, will be the ones to roll up their sleeves and change the world. They will be asserting themselves politically by the 2020 elections. What seems politically impossible today, will happen then. The millenials will stage a radical grassroots uprising. The jerk-off toadies of big money that inhabit the halls of power will be thrown out of office.

The millenials will be the next Greatest (luckiest) Generation. They will fix things. The rest of us can benefit by holding cash in our investment portfolios now so we can get back in when, along about 2016, the situation looks the worst.

After that, the millenials will engineer an astounding recovery in the economy and the markets.

Gonna be fabulous.



No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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A Stealth Top

People think today’s market conditions are normal,
because a benign present is always considered normal.
But it’s not normal. It’s unprecedented.

—Bob Prechter, Elliott Wave Theorist, June 20, 2014

On Monday, trader pal Dick Diamond e-mailed: “Boring. Nothing to do but wait…” The intraday chart of the S&P 500 was flat, matching the uncommon stillness of the ocean at dawn that morning when Cindy and I strolled the boardwalk. Traders hate this calm. We make our living in volatile markets, and this past month our rice bowls have been half empty for lack of opportunity.

On Tuesday the condition abruptly changed. The diagonal triangles-exhaustion patterns-that had been forming in the major averages since April had completed and the throw-overs that followed reversed, generating reliable signals that the long advance in the bear market contra rally since March 2009 was finally over. The textbook says, “If there is a throw-over, the ensuing reaction could be breath-takingly fast (EWP, page 194). We shall see.


As is typical at this type of ending, no one thinks anything is amiss. Quite the opposite. My friend Malcolm sends me a link to a market analyst who says the market can continue to rise for ten more years. This forecast matches those of the brokerage firms I survey. All of them make their forecasts based on what they see in the streets right now:

The economy paints a seemingly encouraging picture: car sales are up, home sales are better than they’ve been in years, retailers are not complaining (but have you noticed that the big stores are featuring 40-50% off everything in the store almost everyday?) There is remodeling, demolishing and rebuilding on every street in my neighborhood. So, what’s your problem, Rod?

Simply this: That’s how all tops look. And, to my gimlet eye, there is a great deal of rot beneath the surface. To begin, the entire rally since March 2009 has been technically weak, with narrowing breadth and contracting volume. Margin debt has exploded and both public and professional sentiment exhibits aggressive euphoria here at the top. In every respect, the rally has been a phony, and the buyers have been in denial about the intractable weaknesses in the economy. It adds up to a “B” wave-a reaction to the primary trend, which is down. Investors are in peril.

Most dangerous of  all is the bubble in the junk bond market. The public’s hunger for yield has them snapping up junk bond funds in unprecedented amounts. Demand is so high that junk bonds can come to market successfully bearing record low interest rates. There is no risk premium built into these investments.

During the next wave down-the most devastating part of the bear market-junk bond issuers will default on the interest and the bonds will collapse, leaving large holes in the portfolios of millions of retirees. Reminds me of the tale about the advice the Baron Von Rothschild supposedly gave his heirs while on his deathbed: “Never buy bad bonds in good times.” Apocryphal or not, the crowd is going to be sorry they weren’t privy to that wisdom.

It is time to play defense.



No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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Keep hopeful, it’s a chore

—Margaret Atwood

 Market Notes:

The VIX’ll scare the pants off ya.

The VIX-the Volatility Index-measures the implied volatility of the S&P 500 Index over the next 30 days. Often called the Fear Index, it screams up sharply when traders are caught in a market plunge they didn’t expect (being numbnuts, they never expect a market plunge at tops). The index registered an all time high of 150 during the 1987 crash. In 2008 it spiked to 80. After crashes, it slithers back down below 40, settling down around 20 towards the end of a prolonged rise when traders are fully invested, complacent, and vulnerable.

I was kibitzing with my mentor, Dick Diamond one session back in the late nineties. The market looked toppy then. “The VIX is at twenty,” he said, “it doesn’t get any lower than that. Something sizeable on the downside is due here.” And he was right.

Well, that sucker is not just down to 20 now. It’s closed at 10.85  yesterday. There is absolutely no fear amongst the trading crowd, which, unfailingly sets us up for a crash.

The VIX joins a passel of indicators that are so outrageously overbought, we should be storing potted meat in bomb shelters about now.

People I’m Not Speaking To This Year:

Wal-Mart’s pusillanimous board of directors, for rewarding the CEO with compensation exceeding $20 million last year for pursuing the policy of paying employees humiliatingly low wages, resulting in their dependence on food stamps and other government subsidies to get by, costing taxpayers 0ver $900,000 a year per average superstore according to IBISWorld, an independent market research firm.

Last November, The Cleveland Plain Dealer reported a Wal-Mart in Canton Ohio organized a food drive for its employees. “Please Donate Food Items Here, so Associates in Need Can Enjoy Thanksgiving Dinner,” read signs affixed to the tablecloths on tables outside the store. Sick.



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On the Clueless Crowd

Alfred E. Neuman

Numbnuts (nuhm-nuhts) Noun 1. The stupidest of the stupid. A complete dumbass, one whose intelligence quotient does not surpass that of the average rock.
–Urban Dictionary

Empiricists will say we don’t have to explain a cyclical event. It’s enough to observe the regular recurrence of a phenomenon to use it as a guidepost for what comes next. Still, it’s nice to be given an explanation for why investors always signal tops in the market by behaving like cretins.

I’ve held that investing is an unnatural act, that most people will lose over time. Cambridge University research fellow, John Coates’ studies on the behavior of traders through market cycles bears this out. It is applicable to investors because investing is trading with a longer time frame.

Turns out, it’s body parts, not brains that cause people to disregard the obvious risk when the market is expensive. Seriously. Riffing on the science of stress, Coates notes that the brain’s primary function in stressful situations is to plan and execute movement, that every piece of information we take in, every thought we think, comes coupled with it some pattern of physical arousal.

Stress, he suggests, is misnamed because humans have stress of all kinds, much of it not very stressful. Many situations are actually a healthy part of our lives, which, in moderate amounts are enjoyable. He says, When you walk into the coffee room at work, your muscles need fuel, so the stress hormones adrenaline and cortisol recruit glucose from your liver and muscles; you need oxygen to burn this fuel, so your breathing increases ever so slightly; and you need to deliver this fuel and oxygen to cells throughout your body, so your heart gently speeds up and blood pressure increases. This suite of physical reactions forms the core of the stress response.

Coates argues our reaction to stress should more accurately be called the challenge response, particularly when risk taking is the stressor. Most models in economics and finance assume that risk preferences are a stable trait. When opening an account for a new client, financial advisors routinely ask the client to state their risk preference. The client doesn’t know it, but the correct answer is “it depends.”

After a bear market, most investors will reply that they are risk averse. A rise in volatility, along with rising prices signals opportunity. When opportunities abound, a potent cocktail of dopamine and testosterone encourages us to expand our risk taking and the investor’s  body is aroused with a rush of adrenaline and rise in cortisol levels. Periodic shakeouts, the result of lingering doubts about the durability of the upmove, generate spikes of additional cortisol, which induces caution and a reduction in the appetite for risk. The see-sawing cortisol levels even out as the market continues up. In a long bull market, a sustained level of the stuff induces high confidence, increasing the investor’s comfort with his portfolio.

Late in the bull market, volatility subsides and the investor’s physical challenge response lapses into complacency, and an inclination for some to overinvest. This is the setup for the downturn.

The absence of buying eventually leads to selling. The new challenge response is another rise in the body’s cortisol levels. This generates caution, a refrain from investing, some selling, perhaps. The continuation of the decline induces more cortisol, hyper-caution, urgent selling and, finally, panic liquidation. At the bottom, the physical response is so intense it causes the investor to freeze up completely-precisely at the time the opportunities are the greatest.

Humans respond to stress with physical arousal, not pure thought. At tops and bottoms, the most critical times in the investment cycle, their bodies sabotage their objectives. They become unwitting numbnuts.

Every metric in the human behavior spectrum is now signaling a top, in character if not in time. It matters not if the market holds up another week, or month, or even year. The next important move is baked into the situation: a horrific bear market that, based on the Elliott Wave forecast, destroys all of the gains since at least 1980.

At last count there were 51 million people with 401k accounts. Most are heavily invested in stocks. Add to that, thousands of similarly invested professional money managers of state and local pensions funds, and college, church and hospital endowments. At this point, everyone who is fully invested has the same physical response to their market position. This is one hell of a lot of numbnuts cluelessly hanging out for the slaughter. I can’t think of a more dangerous period in our financial history.

There are two certainties about a period like this: 1) Somebody, an expert of some kind and a certifiable numbnut will say ,”This time is different,” and 2) It won’t be.



No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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On Being a Worrywart

It’s a long road to wisdom,
but it’s a short one to being ignored

—The Lumineers

My mother-in-law and I are worriers. Her specialty is the family. If it’s not the kids, it’s the grandkids, the nieces and nephews, or her great, extended family spread across the country. “I borrow trouble,” she says, “I know it.” She is our matriarch and claims the right to worry, however much we may try to otherwise sway her. But we don’t mind. It animates her daily devotions and she names each of us in her prayers every night. This is a comfort. She is a wonderful woman, and we sense that, if anyone has God’s ear, Louanne does.

My worry is that I’ll run out of ways to describe the insane risk in the financial markets, or my chicken little act will bomb with my readers before the apocalypse I speak of arrives. Hence, I’m grateful to be able to do a little borrowing myself this week. In this instance, some words from a respected independent market guy.

My thanks to fellow trader Tom Finch for passing along John Hussman’s current thinking. Hussman is one of a small group of money managers who have been on the right side of history over the past couple of decades. These are his recent comments:

“Regardless of very short-term market direction, it is urgent for investors to understand where the equity markets are positioned in the context of the full market cycle. While the most extreme overvalued, overbought, overbullish, rising-yield syndrome we define has generally appeared only at the most wicked market peaks in history, investors have ignored those conditions over the past year. We can’t be certain when the deferred consequences will emerge. But a century of market history provides strong reason to believe that any intervening gains will be wiped out in spades.

“It’s instructive that the 2000-2002 decline wiped out the entire total return of the S&P 500 – in excess of Treasury bills – all the way back to May 1996, while the 2007-2009 decline wiped out the entire excess return of the S&P 500 all the way back to June 1995. Overconfidence and overvaluation always extract a terrible payback.”

‘Nuff said.



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On Lessons Learned

…In the first place, there is no other field in which prediction
has been essayed with such intensity and with so little result.
Economists, statisticians, technicians, business leaders, and bankers,
all have had a try at foretelling the future of  prices over the
New York Stock Exchange. Indeed, there has developed

a definite profession with market forecasting as its objective.
Yet 1929 came and went, and the turn from the greatest bull market on record
to the greatest bear market on record caught
almost every investor off guard. Leading investment institutions, spending hundreds of thousands of dollars yearly
on market research,
were caught by surprise and suffered millions of dollars loss because of price shrinkage in stock holdings that were carried too long.

R. N. Elliott, Nature’s Way, 1946

The important lessons, we are told, are learned, not taught. We must leap before we look, and deal with the consequences. So, in 1968 I joined a major brokerage firm and, without knowing a share of common stock from a load of watermelons, I passed the New York Stock Exchange exam and was duly licensed to solicit business. It happened that the market had made it’s peak for the financial cycle two years prior, and was now in the throes of a final speculative bubble. For a very few months, I could do no wrong. I would put a sign in the window of the office, “Stock Seminar tonight!” To a standing room only crowd I would extol the firm’s latest recommendations and people would buy. I was a genius on a rocket to outer space.

Coyote on a tear

But none of my recommendations held up in the selloff that began almost immediately. There were three swings in the market over the next five years. Each time the market approached the 1966 high of 1,000 on the Dow Jones Industrials, I felt better-until it rolled over again. Finally, as 1974 got underway, it dawned on me that neither my firm nor I had any idea how to put money to work in the market. Before that year was even half way over it was clear

Coyote redux

that we were gonna frickin’ die. My clients were in very bad shape at the lows of ’74. It was a searing experience for me, but I stuck it out, vowing that if I ever saw the market with valuations and sentiment like I’d seen in the late sixties, I’d head for the exits.

I did just that as the nineties came to a close. The market has had several swings since then, but there has never been any serious liquidation, sentiment is even more extreme than in the sixties, and the leverage-the debt that has fueled the market and entire global economy during the last decade-is also record breaking.

I write these essays in order to give my family and friends something to ponder during this period because I note that banks, brokers and advisors are making the same kind of recommendations they made at the last bull market top. I don’t give anyone advice. I just hope that some of my readers


see it the way the roadrunner sees it.



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Of Trends and Portents

The sun shall be turned to darkness, and the moon to blood,
before the great and terrible day of the Lord comes.

–Joel 2:30

We must, perforce, make an estimate of our financial future. So, shooting from the hip, we extrapolate a trend from the conditions of the moment. My neighbor looks about and sees lots of business activity. The market is making new highs. He projects: tells me things are going to be great. He remains confidently fully invested in stocks and bonds. Nothing in the neighborhood prepares him for a reversal. When it comes, he will be flabbergasted, slow to accept a new reality, and then crushed.

In modernity, we have the illusion that we can deal scientifically with uncertainty. We employ the “science” of economics, otherwise known as the dismal science, due to the perfect record of its practitioners for being wrong at major turns.

Old Testament prophets were more concerned with change than trends. They derived their forecasts for change from their empirical observations, passed down through the millennia, of natural phenomena that correlated with change.

The ancients spent their time outdoors, closely observing nature in its entirety, as well as man’s seasonal tendencies, for portents of change (Ecclesiastes), based on history. We go inside, sit in front of a flat screen, and listen to Larry Kudlow bloviate about trends.

We chuckle dismissively because we do not see any relationship between the occurrence of blood moons (we just had one, and three more of these rare events are due within the next eighteen months) and the financial outlook.

The empiricist Ralph Elliott didn’t laugh. In Nature’s Law, Elliott’s monograph on markets, he wrote, “Man is  no less a natural object than the sun or the moon…Human activities, while amazing in character, if approached from the rhythmical bias, contain a precise and natural answer to some of our most perplexing problems.”

Through meticulous observation, Elliott discerned patterns of advance and retracement in the market that repeated at various degrees of trend. He noted that the relationships within the patterns contained Nature’s math-the Phi ratio (.618) that is found in every living being. After the market bottom in 1932, an advance got under way that stalled in 1935. While economists, and the public generally were convinced that the retracement meant that the bear market would come back hard,  Elliott stated firmly that the lows were in and predicted a great bull market that would unfold in a series of waves that would be astounding.

Sixty-five years later the Grand Supercycle bull market he predicted came to a top. Since March 2000, the market has traced out an A wave, the first decline of the expected bear market and, since the low of March 2009, it has risen in a B wave, which, new highs notwithstanding,  is a counter trend rally. When the C wave down gets underway, the target will be a decline to the area of the 1929 Supercycle top of 391 in the Dow Jones Industrials.

My brokerage firm (where we keep our funds in money markets) loves this rally. They say, “…sales are expected to gradually trend higher for the rest of 2014 as job growth and the overall economy accelerate.” They do not give any reason for this robust forecast.

My studies of the Elliott Wave Principle indicate that all of the requirements for a top in this wave are in place, that the measures of sentiment, valuation and momentum today correspond and exceed those at every top in the last 150 years, and that three large trading cycles of 50, 32, and 7.25 years duration  are simultaneously coming into lows in mid 2016. These are observable portents, and given that blood moons have often occurred around the time of past natural disasters, I don’t know that I want to be completely dismissive of that implied correlation, either.

So, you pick your poison.

The end is Coming



No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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Be Prepared

I don’t buy it when they tell me the trading range the market has been trapped in for the last three months can resolve itself by making new highs just as easily as by going down. It’s a lively market with lots of economic activity, but it reminds me of what we used to call a creampuff car: lots of chrome on the outside, but a dog of an engine under the hood. Stare at this chart:

Umbrella top

This is what Bob Farrell used to call an umbrella top. It happens when the crowd is still bullish, but out of ammunition. This is what we have today. Cash levels in both institutional and individual accounts are near the lowest in history as a percentage of assets. Margin debt, the borrowing that has been fueling the attempts to rally stocks is, likewise, in rare air.

Meanwhile, new debt issuance is zooming in the corporate sector, increasing amounts of which are leveraged loans, where the borrower’s post-financing leverage, measured by debt-to-assets, debt-to-equity, cash flow or other such standards, significantly exceeds industry norms for leverage. Almost 60% of new first-lien leveraged loans issued in the last twelve months are covenant-lite loans (short on asset value). Topping it off, collateralized loan obligations, the instruments at the heart of the ’08 crash are back in vogue.

When we reach what avalanche experts call “critical state,” any little negative surprise will be enough to start a serious sell off. When that happens, the multi-year trading cycles will exert the final pressure to cause the C wave to fulfill its potential to take the major averages down to levels that are inconceivable to the invested majority.

So, just listen to my favorite Tom Lehrer song below and be prepared:




No one should consider any part of this presentation as a recommendation to buy or sell any securities whatsoever.

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