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Mark's Market Blog

#421 3-12-17: Si vis pacem, para bellum.

By Mark Lawrence

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We had a brief blip up to S&P 2400, and now we're settled back around the 2360 area. The only argument against a correction starting soon is that everyone expects a correction to start soon.

S&P 500 September 15 2016 to March 13 2017

My sales are terrible and have been for a full quarter. GM and Ford have record inventories of unsold cars. Restaurants are showing a drop off in traffic. Business inventories are building up. Oil storage facilities are saturated, and the high price of oil is bringing US frackers back on line. I'm very cautious to call a recession, but more and more this is looking like one. In a few weeks we'll get Q1 earnings reports; I'm expecting that a lot of companies are going to have disappointing results.

Wednesday is D-Day. Yellen will (to a near certainty) raise interest rates; the Obama/Boehmer deal expires and the government is up against the debt limit; Teresa May perhaps will file Brexit papers with the EU; and the Dutch will vote for their new president. Turkey has already entered their vote in the Netherlands elections: they have denounced Wilders, said their deal with the EU is over, and say they're going to unleash a few million refugees on Europe.

We're weeks away from a government shutdown. Trump is offering in his new budget to make the greatest cut in federal workers since the end of WW II.

Independent analysis groups say they think it's 2 out of 3 that N.Korea will do something provocative in the next 30 days: an atomic test or more missile tests. Last week they tested four missiles; three of them fell into Japanese waters. Trump has asked the DOD to explore all options, including an invasion by special forces to capture or kill the N.Korea high command. Meanwhile S.Korea has impeached and removed from office their conservative prime minister; the leading candidate to replace her is a liberal who says (correctly) that sanctions have not worked to slow the north's nuclear development, so we must return to detent and negotiations. We have recently moved B1 and B2 nuclear armed bombers to Guam and placed our most advanced missile defense system in S.Korea. Perhaps a new S.Korean PM will request we remove the missiles. I see no solution here: I don't believe a surgical strike will work, I think the results will be incomplete and include severe damage to S.Korea by the well dug in NKoren cannons aimed at Seoul. I don't believe negotiations will work: N.Korea has been consistent and clear that their goal is reunification under N.Korean control. I don't believe China will tolerate incursions resulting in S.Korean or US forces approaching closer to their borders. I don't believe China will participate in a regime change which will likely lead to millions of refugees trying to enter China. Simply put: N.Korea's actions and demands are intolerable, and all our potential responses are ineffective and/or intolerable. I have long believed that Iran is partnering with N.Korea in their nuclear program, so perhaps Trump will see a strike involving our bunker busting bombs and special forces as both accomplishing regime change in N.Korea and sending a strong warning to Iran. There's a chance it would go down just like that. But I think there's a greater chance that a third of Seoul would be destroyed too.

Japan has sent their largest aircraft carrier to the S.China sea to let China know they're very displeased. The Philippines are colonizing an island in the S.China sea to let China know they think they own part too.

China has released their 5th gen J-20 stealth fighter to active service. The J-20 is stealthy only from the front. It's not so great from the sides or back. That means the US and Japanese E2 and E3 surveillance planes are able to see it coming if they're flying off to the side of the J-20 flight plan. The J-20 is said to have a much longer range than the F35. Since we haven't see one fly we're not sure about this, but it's perhaps believable. The J-20 clearly serves China in the same capacity the F104 used to serve the US: a long range high speed interceptor. The mission is to fly straight out 800 miles fast, shoot some missiles, most likely at aircraft carriers, then try to make it home. The J-20 shows little that would make you think it could take an F22 in a fight, and it's unbelievable that it has the sensor fusion and communications abilities that make the F22 and F35 so deadly in a crowded airspace. The J-20 will force our carrier groups to back off a couple hundred miles and play a "spread offense," where assets are dispersed so that no matter what direction a J-20 flies someone will be off to the side and able to see them coming. It will also require us to develop stealth mid air refueling capabilities - we're working on that now, but nothing is going to fly anytime soon.

Chinese newspapers are drumming up popular support for potential actions to maintain their claims in the S.China sea. A simplistic read would be that they're preparing their populace for war. This makes no sense to me: China cannot attack us save with nukes, so their only possible win would be to decimate our navy and establish clear superiority in the S.China sea. If they were to do this, we would replace our navy in the coming years, and meanwhile we would stop buying anything from China, as would Japan and S.Korea. This would be so hard on their economy that it would bring the stability of their government into question. China needs uncertainty, but they do not need a war. However, as we creep closer to direct confrontation, we enter a situation where small miscalculations can have enormous effects.

We live in extremely interesting times.

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