ICM Weekly Strategic Plan Jan 9 2012 The Liquidity Cycle index remains locked in generally sideways action

driven by the high degree of market correlation resulting from the continued focus on news out of the Eurozone and the crisis surrounding sovereign debt, bank solvency, and the structure of the monetary union.

The same sideways behavior is reflected in the US fixed income markets. The 3 month and 10 yr charts below illustrate the lateral movement as the markets attention is focused primarily on the euro circus.

The liquidity cycle indicators do tend to confirm the big up day or down day movements but the macro conditions continue to predominate which reduces some of the sector variation that really drives the

current variation of the model. The US market is experiencing improved sentiment as we have seen improving data from many economic releases for the past several weeks. The Economic Surprise Index Has moved very positively but the ECRI Leading Economic Indicator is not confirming. Our Liquidity Cycle Index tracks the ECRI index very closely and is also diverging from the surprise indices. The last divergence of this size back in 2008 resolved sharply to the downside.

The AAII bullish sentiment chart courtesy of http://www.bespokepremium.com/ also reveals the rising optimism recently. The chart of the VIX, also from Bespoke, again confirms rising optimism about equities in the US.

I am including a table below of the 1 week, month and year performance of the ETFs in the Bespoke universe because it is a concise way to compare performance across domestic, international, equity,

sector , fixed income and commodity markets. The strongest performance was TLT the 20 year tresury ETF up 28.28% last year. The weakest performers wer natural gas and India.

Rather striking outperformance by US equities relative to International markets. Following are some 1 year performance charts providing a quick visual of 2011 relative outcomes. Equity Sectors first:

Global Indices and Commodities

charts courtesy of www.finviz.com

Scanning hundreds of charts covering equities , bonds, commocities, currencies and international markets this weekend preparing this document enabled me to note that the few days in late July early August when the US Congress was fully revealed as fully dysfunctional by the process surrounding the debt ceiling hikes was in fact a cathartic moment. Chart after chart showed a change for the worse or an acceleration of negative direction right at that point of the year. The preening hypocrisy of our elected officials and their self important ornamentality was broadcast world wide and the world lost its nerve.

Argentina just happens to be the first in this list but go to this FinViz link and see the 20 other examples to see what I mean. Or the bond chart next showing the global loss of global confidence sent money running for safety to the US anyway.

The televised demonstration of the incompetence of the current elected leadership of the most powerful nation on earth not only caused a loss of confidence in the United States but led the managers of global capital to also mark down the value of leadership elsewhere. The global liquidity one might have expected to flee the US looked around and could not find desirable alternative locations. So that money stayed in the US and went risk off and was joined by global money doing the same thing. US

currency, equity, and fixed income have largely outperformed since that time. Swiss Franc, Japanese Yen, and Gold also benefitted from haven seekers. Volatiltiy Environment: The end of the year position squaring and shrinking volumes left most markets officially quiet or neutral. But the first of the year can be expected to activity pick up.

Spread activity in energies and in grains this past week were very correlated to open to close price direction, confirming those moves but not offering much additional. I sent out a brief note on those charts mid week and so I am going to pass on that coverage until next week when markets will be back in full operation giving us more reliable readings. This week once again was dominated by European news. Equities and currencies moving to the mood of the euro. The Dec 9 ECB moves and the subsequent statements form European leaders following that date were initially received with some disappointment but markets quickly realized the LTRO programs offered a kind of TARP imitation that would provide enough liquidity to reduce the looming bank contagion. Cheap loans for 3 years combined with expanded and eased ECB collateral rules would provide great relief to european bank balance sheet pressure. Relief set in and rates eased, especially short rates and a degree of holiday quiet started but as the CDS rate chart shows worries have reemerged and by the end of the first week of 2012 cds rates wer back near their worst levels in early December.

The Euro finished under big pressure: Breaks down into 5 year lows

The 5 year chart is a bit misleading about those low levels so here is a longer look. Much lower levels are still possible and credible if nothing is done beyond the current daisy chain of questionable credit extension and turning a blind eye to collateral value.

Perhaps the resumption of pressure on the Euro was caused by pre New Years reading and someone got a look at the table below produced by Grant Williams of TTMYGH fame.

The table above highlights the issuance for the PIIGS plus Belgium, France and Germany for the first quarter of this year and, makes quite clear, that something, somewhere has to give. March alone will see the need for 159.6bln to be raised amongst these 8 nations out of a whopping 400bln for the first quarter of 2012. Grant Williams

Another problem for the Euro leaders is even as they bend the rules to lend mmoney to the banks there is no certainty the banks will lend it out. You know the old saying you can lead a bank to money, but you cant make him loan.
Some 453bn (378bn) was lodged in the ECBs deposit facility on Tuesday night in a move that some analysts feared showed banks were so concerned about lending it out to rivals that they would rather earn just 0.25% in interest from the central bank. UK Gaurdian via TTMYGH

The best thing that could happen for Europe at the moment is big distraction that takes them off the front pages. Which brings me to Iran. The iranian issue is not new as it pops up about every 6 months when Aneedajob (whatever) starts crowing about some new milestone in the Iranian nuclear power (reaed bomb) program is reached. At that point we get some hard language from Israel and the current POTUS and endless speculation by pundits on when it will be that Israel bombws the begeezus out of Iranian facilities. This time, however, the Europeans, borrowing the classic Soviet give the peasantry something outside the country to worry about strategy, have jumped in and voted on an embargo on Iranian oil. This is overt provocation by a group not noted for takeing a principled stand that might cost them money out of pocket. Remember these same folks voted to embargo Saddams oil at the UN while buying it hand over fist under the table in exchange for military hardware sales to Saddam. I find the timing suspicious and worrisome. Apparently so do the Iranians as the currency plummeted 30 or 40% briefly this week. Compare that to the Euro which was down less than 3% in all of 2011. Keep Iran on the radar. SocGen put out a research piece on various scenarios for the Iranian situation and an estimate of crude oil prices in response. I have not yet been able to attain the research but ZeroHedge has a decent article on the research. SocGen's situation summary:

Scenario 1: EU enacts a full ban on 0.6 Mb/d of imports of Iranian crude. In this scenario, we would expect Brent crude prices to surge into the $125-150 range. The extent of the bullish impact will depend on the terms of the actual EU embargo, including how quickly it will be phased in. Another important variable will be how much Iranian crude is cut by non-EU countries, such as Japan and S. Korea, as a result of US pressure. This will determine how much Iranian crude has to be replaced by Saudi Arabia, and how much spare capacity Saudi Arabia has remaining after it increases output. Lower Saudi spare capacity equals higher prices. An EU embargo would possibly prompt an IEA strategic release. The price surge would dampen economic and oil demand growth. An EU embargo is considered likely, especially after the EU reached an agreement in principle on an embargo on 4 January. When it is announced, depending on the timing and details, we may revise our base case oil price forecast upward. Our current Brent crude price forecast for 2012 is $110. Scenario 2: Iran shuts down the Straits of Hormuz, disrupting 15 Mb/d of crude flows. In this scenario, we would expect Brent prices to spike into the $150-200 range for a limited time period. We believe it would be relatively easy for Iran to shut down the Straits of Hormuz. A credible threat from missiles, mines, or fast attack boats is all it would take for tanker insurers to stop coverage, which would halt tanker traffic. However, we believe that Iran would not be able to keep the Straits shut for longer than two weeks, due to a US-led military response. The disruption would definitely result in an IEA strategic release. The severe price spike would sharply hurt economic and oil demand growth, and from that standpoint, be self-correcting. A Straits of Hormuz shutdown is not likely. We estimate the probability of this very high impact event at 5%. Although Iran may like the idea of retaliation in order to hurt its enemies, by halting its oil export revenues, it would hurt itself even more. Moreover, Iran would do this at the cost of provoking a military response that could destroy much of its military and perhaps even its nuclear program. Via ZeroHedge

Late in 2011 and so far this year Gold has been another big story and focus of attention. I have been asked for my opinion on gold quite a bit in the last month and I have responded pretty consistently so I will keep it brief here this week. For a short term trader gold might do anything . It has had a big up move , a solid and rapid correction, scandal brought on by MF Global, and has cleaned out a lot of positions, open interest and resting orders. I expect volatility and would use the charts as a guide. For investors or longer time frame traders or central bankers I say the following: hold your longs buy more if you can. Pretty unequivocal. Here is why I feel strongly about this:

For anyone who still hasn't grasped the magnitude of the central planning intervention over the past four years, the following two charts should explain it all rather effectively. As the bottom chart shows, currently the central banks of the top three developed world entities: the Eurozone, the US and Japan have balance sheets that amount to roughly $8 trillion. This is more than double the combined total notional in 2007. More importantly, these banks assets (and by implication liabilities, as virtually none of them have any notable capital or equity) combined represent a whopping 25% of their host GDP, which just so happen are virtually all the countries that form the Developed world (with the exception of the UK). Which allows us to conclude several things. First, the rapid expansion in balance sheets was conducted primarily to monetize various assets, in the process lifting stock markets, but just as importantly, to find a natural buyer of sovereign paper (in the case of the Fed) and/or guarantee and backstop the existence of banks which could then in turn purchase sovereign debt on their own balance sheet (monetization once removed coupled with outright sterilized asset purchases as is the case of the ECB). And in this day and age of failed economic experiments when a dollar of debt buys just less than a dollar of GDP (there is a

reason why the 100% debt/GDP barrier is so informative), it also means that central banks now implicitly account for up to 25% of developed world GDP! What does this mean? It means that nearly $8 trillion in world economic growth is artificial and exists only courtesy of central bank intervention - if one is looking for the reason why there is no mean reversion to a more stable period of time, there's your answer. It also means that central banks will never unwind their "assets", either actively, or passively, by letting them mature, as doing so would effectively mean an accelerated return to a non pro forma status quo, one in which global GDP suddenly finds itself $8 trillion less. It also means that in this age of ongoing consumer and corporate deleveraging, central banks will have no choice but to continue monetizing not to generate incremental growth, but to offset debt destruction elsewhere. And of course, in order to sustain global GDP growth of ~3%, they will have to print even more via Zerohedge and TTMYGH One Chart for the traders:

This letter threatens to get too long so I will close up. But I will add reading and thinking about the world and economies in an environment like we have now can be discouraging. News tone follows popular sentiment which is worried in worrying times. But I am very optimistic about the longer term and about what humanity can achieve. Grant Williams concluded his letter this week this video link and the following comment with which I concur: We really are, as a good friend of mine is wont to say, clever little apes...

Enjoy.

Bruce Lawrence