Buy the US dollar before a market sell-off!

Whereas the domestic Chinese stock market has continued to make new Highs, most Chinese equities are already significantly below their pre February 2007 highs. In other words, it would seem that the global asset inflation is slowly narrowing with fewer and fewer assets still surging.

One asset class which has joined the downturn in US home prices is the Spanish property market, where the shares of some home builders and construction companies have crashed by 60% in the last two weeks.

Now, I concede that it would be wrong to conclude that a weakening US economy or a recessionary US economy may necessarily mean that asset prices will decline. After all, the Fed could aggressively cut rates in order to push even more liquidity (leverage) into the system.

Debt expansion

However, we should consider the consequences of even faster US debt growth. The dollar would likely tumble and consumer price inflation would most certainly accelerate.

So, whereas the stock market celebrated the April rebound in the ISM manufacturing composite index little attention was paid to the sharp increase in the prices-paid index. Moreover, a further sharp rise in money supply and debt growth would almost guarantee a further acceleration of import price increases.

Therefore, even if I am wrong about a weakening economy, which could derail the bull market in asset prices, further economic strength could mean far higher inflation and interest rates, and also lead to the end of the colossal asset inflation, which we have experienced in recent years in property, commodities, collectible and equity prices on an unprecedented global scale.

Exit opportunity

If selling panics provide favorable entry points in asset markets I suppose that buying frenzies should offer excellent exit opportunities. I would, therefore, use the current strength in equity markets around the world, which has left them in an extremely overbought position, as an opportunity to sell and certainly not to increase positions.

Particularly vulnerable are economically sensitive stocks such as consumer discretionary (specialty retailers), material companies (steel), and investment banks and the overstretched and over-popular emerging stock markets. Energy stocks are likely to out-perform, and coal stocks.

Lastly, as a contrarian play I would buy the US dollar against the Euro. Sentiment about the dollar is very negative and the dollar is oversold near term. This is not to say that my long term negative about the dollar has changed but a near-term bounce is probable.

I continue to recommend the gradual accumulation of precious metals. Precious metals are the only asset class for which I have a high degree of confidence from a long term perspective. Also I would not hesitate to increase the exposure should precious metals correct by 10% or more.