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August 17, 2005

Finding a Grip on an Icy Cliff

Today's inflation number was the July PPI, a government number only slightly less fabricated than the July CPI. In an encore to yesterday, traders were further shocked into the realization that significant price inflation is infiltrating our financial system. As a result, 10-year Treasuries were hit, driving the yield up 6bp to 4.27. The move in the bond yield was not good news for housing.

Housing stocks set a new low in their current slide, and Centex, one of the homeys which I follow closely, broke below an important resistance level in my technical modeling. Centex needs to put in a whole trading day below the resistance point (about 68.60) for confirmation. In Monday's blog I revealed a notion that the homeys are teetering, and that feeling is growing. There is a high probability, in my opinion, that these stocks will suffer a large down day very soon.

Back to the inflation numbersÂ… a contrarian play occurred to me this morning. It seems every time the broader market finally figures out a macro theme, the manifestation of that theme takes a pause and makes fools out of the latecomers. A prime example was how everyone was trash-talking the dollar at the beginning of 2005. The dollar promptly staged a magnificent rally in the midst of what will, in the longer term, prove to a magnificent bear market for the dollar.

Likewise, now that the broader market is getting antsy over inflation, we may be due for a bout of price deflation before we get on with the commodities bull market. No sooner had I completed these thoughts, crude oil began a slide to close down over 4% on the day. I believe the oil party may take a pause here, barring some sort of significant geopolitical event. Likewise, the industrial commodity bull may take a leave of absence here. It would all fit with the expected China slowdown theory I posed yesterday.

My technical indicators triggered a sell on AMD one week ago. I did not play this signal aggressively because of my underlying bullishness on AMD. My stop-loss triggers are borderline on this trade, but I am holding the position a little longer for two reasons. First, AMD's oscillator reading is at an extreme overbought levelÂ… a level rarely reached by any stock. Second, I believe the last few days have seen traders figure out the AMD story after successive reports by Dell, Gateway, and H-P. Once the feeding frenzy calms, I expect the stock to unwind its overbought position rather quickly. Of course, the trade would get busted if Dell announces it will use AMD chips.

Disclosure: Short CTX; Long AMD Puts


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