2013 Market Outlook.

The lesson from 2012: We can ignore the Mayans, ZH and many other preachers of doom and gloom. Everything ends and the world will also end someday. We can't get caught up in bear talk all the time and not live a normal life. This dysfunctional central bank liquidity fuelled market will again enter crisis zone someday but we can't short a rising market without risking loss of capital.

The other life lesson: We can't predict future. If that was possible, the fortune tellers and gurus will all win the lotteries. So I am not even going to try. But I follow a system which analyse the past, takes inputs from the money flow, takes into consideration the seasonality patterns and tries to determine the next move, where the "puck" is going to be. Along the way, we apply risk management and only look for high probability trades and even then follow a stop loss system.

  So what are the dominant themes for investment / trading in 2013? Lets look at the positives first:

• Energy independence in USA. With the fracking USA is producing surplus Nat. Gas and shale oil the cost of energy in USA is less than 50% compared to Europe or Japan or China. More and more companies are realizing the benefits of the cheap energy and companies are moving manufacturing to USA. It is a long term secular trend. We will not see any immediate impact tomorrow or next month but if we suddenly wake up and compare the manufacturing landscape in 2020, we will find that lots of manufacturers who require high energy inputs have moved to USA.
• Change in Manufacturing: Manufacturing itself is changing. Since industrial revolution labour cost has been one of the most significant part of cost of production and it is the lure of cheap labour that has move manufacturing to China and shut down the plants in the rust belt. But moving production to a far off place which is 1000s of miles away from your market has its own set of costs and problems. There is cost of transportation, inability to respond quickly to changing markets and of course corruptions in a developing country and loss of intellectual property rights. But now even the manufacturing process is changing. Robotics are slowly taking over the production process and replacing the blue collar workers. Take a look how Telsa Motors making cars: http://vimeo.com/43083157             Slowly but surely Robots are replacing humans from Warehouse management to complex shopfloor production. In future production lines will have fewer people who will be highly skilled technicians. The flip side is, there will be no market for unskilled labourers except flipping burgers. Even that will be challenged. With this change, the cost advantages for off-shore production will be gone and you will find more companies are relocating back closer to their markets, thereby cutting down costs of transportation and other headaches. I think, long term that spells trouble for China and Good for USA.
• New Technology: 15 years back, internet changed the way we do business.  Now something new is coming up which will again impact the whole manufacturing process. That is 3D printing. Companies will be able to manufacture what they need in quantities that they need in a much more cheaper and efficient way. 

Now the Negatives:

• Structural Challenges: For too long USA has been living beyond its means. It has over $ 16 trillion debt and much more in unfunded liabilities. There is no way in hell or heaven that it can balance the budgets. Even if USA changes 100% income tax , it will not be able to bridge the gap. The problem is spending and USA is not able to address that. With the interest rates at today's artificial low level, it has borrowed more and more and with looming deflation, Barnenke is pumping more money. This will inevitably lead to inflation which in turn will push the interest rates higher and the cycle will come full circle. The era of low interest rates are coming to an end soon.
• Structural Unemployment: The unemployment problem will continue to trouble USA and much of the Advanced world. It is a structural unemployment where skill set required is absent in a large section of the population while demand for high skilled workers remains high. The level of education, particularly math and science till grade 12 is pathetic compared to some other countries and cost of University education is becoming more prohibitive. It will no longer be sufficient to have a basic grade 12 education and hope to get a factory job. More and more factory jobs will require good knowledge of math and science.
• Political Paralysis: Or partisanship. All that politicians are interested is how to get re-elected and they are playing to their base. While the cliff thingy has been kicked down for two months the real issue will come up in February when the debt ceiling collides with cliff. That is a major headwind for 2013.
• Global Slowdown: Every country is trying to prosper through export and debasement of currency. If everyone if trying to export who will be left to buy? American consumer has long supported the world but how long they will buy the stuff they don't need with the money they don't have? 
• Geo-Political Problem: I see major issues coming up in middle east and far east which can have serious negative impact.

  Final Thoughts:

While I have a long term bullish outlook for USA, I expect 2013 to be a bumpy ride. While Wall.St. pandits will again scream as to how cheap equities are, the fact remains that we are at the upper end of the range and the forward looking profitability of the companies are not going to be great. I expect SPX to test 1500 in the 1st half of 2013 and correct from there.In the next few months I expect VIX to trade lower from here and reach low double digits. The exact timing of moves are a matter of interpretation and left for the subscribers. I expect to see better risk/reward ratio for commodities and would be watching Oil, Nat.Gas, PM sectors and other soft commodities like Soya bean , coffee, wheat etc. I think there are very few longer term investment opportunities in equities in 2013 and whatever opportunities are there, would be short term trading in nature. Because of the economic headwinds the time frames will be much shorter. But opportunities will be both on the long side as well on the short side. So let's not get married to any one idea. Like in 2012, the coming year will continue to frustrate investors with whipsaws and folks will have to be very nimble. Even if there is no recession, the growth opportunities will be limited and US economy will at best muddle through. 

If "Muddle Through" economy is the most likely scenario of 2013, combine that with the fact that the 1st year of the 2nd Presidential Election cycle, when an incumbent is re-elected and you will see that the prognosis is not that great. Precisely the reason I am calling for a short trading/investment time span, take the money and run approach.

We have immensely enjoyed the Fiscal Cliff Circus and we are now getting ready for the next part which is "debt ceiling' drama. But for now, we have removed some uncertainty and  markets in general do not like uncertainty. We would be scaling in various positions from this Friday, long and short. Today it might be little volatile with wild ups and downs. All in all, an interesting beginning for 2013.

Stay frosty and good luck trading all.