Crystal Light

I looked out this morning and the sun was gone
Turned on some music to start my day
I lost myself in a familiar song
I closed my eyes and I slipped away
--Boston

Here's the totally nonsensical market path over the next few months that I'm warming to. Optimism that the worse is behind us continues to grow. The SPX breaks above 950 over the next week or two. The index grinds higher as non-believers become believers and jump on board. Shorts get their eyeballs squeezed. The SPX touches 1100 by mid fall. Commodities move higher in kind. The USD gets sold.

Fundamentally and structurally, though, things continue to deteriorate. Unemployment (as measured by the BLS) easily moves thru 10%. Bid/ask spreads on mortgages widen, as lenders raise credit requirements and borrowers shy away from risk. Stimulus-related government spending increases in ongoing efforts to breathe life into a stalled economy. Debt at all levels continues to hover at all time highs.

When it becomes clear that the economy is not catching up to recently elevated market prices. A new round of deleveraging begins. To cover debt projects, assets of all types (stocks, commodities, real estate) are sold. Prices decline in correlated fashion. By end of year, the SPX is back below 900, gold is below $800, oil is below $40, and the USD is heading higher.

Over the past few weeks I've added to my equity and commodity positions in hopes of catching a meaty move higher. Should this nonsensical scenario come to fruition, I'll likely be making significant sales into SPX 1050 and higher. Depending on how things feel at this point, there's a chance that I'll shed all risky assets in favor of cash. Should we enter a new deflationary leg lower it's my sense that prices will fall across the board. In such instances, cash is king.

Should I be fortunate enough to 'see' the right opportunity, I might also take on some short exposure in the SPX 1050-1100 area. But my primary goal will be return of capital rather than return on capital.

High cash levels could then be deployed to chunk down mortgage debt in early 2010, buy bullion at suppressed prices, and scoop other bargain assets on the other side of the ride.

Again, the chances of this scenario playing out as-is are likely pretty slim, but this is the pic I'm warming to. I'll adapt as things unfold.

position in gold, oil