Have You Lost Your Mojo

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Which side of the speculating-fence are you on?  Are you euphoric with gains from this rally off the low?  Thank you dumb money.

Or are you annoyed sitting in cash, position-less, and asking the market why is it not listening to you about this being a bear-market rally?  I see you smart money.

I was fortunate to have lost very little thanks to my hedges coming into 2020.  Partnered with basic risk management, returns on the year are flat.  Not great, but I’ll take the profits off the well timed trades to mitigate losses in the long-term buckets.  Bottom line, I missed this rally.

But the major indexes are up 40% off of their seppuku-inducing lows.  Are we in for more?  Is everything fixed?  Will we see new highs and then push on for an additional 30% to 40% more in gains?  I want every reader to remember just how great and unusual 2019 was for returns.

You could’ve made 30% in 2019 in your sleep with zero skill and no risk management.  We’re going to get back to back years of that?  Highly unlikely.

Is this rally legit?  Well if you sell and realize gains, then hell yeah!  But are we truly in the clear from a bear-market rally and more damage?  Who’s to say?  Just history.

Have a look at this chart that Macro-Ops put together.

Bear Market Rally Duration & Performances

Here’s another chart from BofA.  It’s already made the rounds and is dated at just over six weeks old, but have a look at the 3 columns specifically on the right.  Have a look at the dates and percentage losses that were still pending to the date of the actual, final low.

BofA Bear Rally Chart

The coast may be clear but 2020 has seen the most unusual market action in history.  I have no way of knowing if this is a bear market rally or a legit restoration of the bull that I’ve missed so far.  But my portfolio’s cash levels clearly mark where I stand.  And if the statistics above are not enough history imploring caution, then have a look at this chart near the end of the GFC in 2008/2009.

S&P 500 2008 Crash & Bounce Volatility

How many bottom-callers gave away healthy chunks of their stacks during that 6-month rundown?

The most successful, sharpest speculators on the planet are currently telling you outright where they stand on this market and it’s poor risk/reward set-up.  That has to make you pause even though the price action is the final arbiter.

People are trained to not fight the Fed, now.  Even dumb money is trained.  Everyone now “knows” that the tsunami of liquidity washing over the financial and corporate world will support equity prices.

It worked for the last 10 years.  It has to work now.  Right?

The stock markets are a discounting mechanism.  They see the future and the future is bright according to speculators, currently.

But let’s revisit the realities of the pandemic’s effects on spending and thus business earnings as well as viability to continue as ongoing concerns.

Tens of millions of people have lost their jobs regardless of whether it’s a furlough or a permanent termination.  How many people who retained their jobs have taken salary cuts of 20% to 30%, possibly permanent?  And somehow this is not going to have a long-lasting impact on business conditions?

The current, typical mindset seems to be something like this, “Just write off 2020. It’s a sunk cost. We’ll have vaccines soon. People are social distancing. And the government is propping up everyone. 2021 is definitely going to be a great year, economically, so let’s price stocks accordingly now.”

However, widespread impairments to income will lead to widespread impairments to business operations.

Have a look at the credit downgrades from Q1.

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Bankruptcies are going to happen.  Capital will be lost.  Is that being appropriately discounted right now?

Right in line with the credit downgrades, let’s take a look at the HY option-adjusted spread.

HY Option Adjusted (May 2020)

We’re in a recession.  The BEA will report this.  And yet spreads are diving.  Well the Fed is buying HYG and JNK.  Don’t fight the Fed.

But let’s look at HY’s default rate versus debt to GDP.  You see that wide mouth?  It’s going to chomp and the likely path of convergence lies with the default rate moving upwards.

Debt to GDP vs Default Rate (May 2020)

And what about leveraged loans and CLOs?  Approximately half of the the leveraged loan market, $600 billion, is securitized via collateralized loan obligations.  Between downgrades and further business earnings impairment, wait till CLOs begin acting like 2008 CDOs.  Will it be a positive or negative for equity prices?

Let’s keep it simple and return to equities with a final look at the pure concentration of capital in this Q2 rally.  Here’s the BofA chart that’s played out by now.  It doesn’t seem to matter that capital is concentrated because this time is definitely different.

Market Concentration (Apr. 2020)

These stocks support the work-from-home new economy so it’s all good, but let’s take a look at a SentimenTrader chart.  After all these years, SentimenTrader continues to generate so much value at such a small cost.  Literally, every player subscribes to it; even those that already have Bloomberg terminals and the best info-flow money can buy.  Chart is dated 5/13/2020.

SentimenTrader - Concentrated Rally (5-13-2020)

Not a pretty picture but we’re almost 2 weeks removed from that signal and the market is up almost another 10%.  Not trying to mine the data but I just can’t shake the nagging feeling that a selloff is imminent.  And by imminent I mean within weeks if not days, just not tomorrow.

Based on the concentration levels then it would stand to reason that the NASDAQ will truly indicate when a correction is to begin.  With the 5 stocks (FAMGA) up above representing 45% of the NASDAQ vs 20% of the S&P 500, look for weakness in the NASDAQ to indicate a trend change.

Once a correction starts, I could see 8200 as a solid support area.  This would put the NASDAQ about 13% below from current prices.  For those of you that missed this rally, some Puts on the QQQ followed by some jumping into quality long positions once that 8200 level is reached will be a good way to make up lost ground in your P&L for 2020.  This would be just above a huge price area of recent purchases, noted below in the chart.

$COMPQ Support Level

Hard to fight this rally.  I know.  But if you want to get that mojo back along with some of that lost capital, it might pay to be bold.

Whipsaw, Whipsaw

MAN ALIVE! That action on Monday is enough to make a trader fold up operations and go back to counting beans or selling un-needed crap to folks. That was seriously some hair-raising action. Did you get your stops ran? Did any of you traders get whipsawed by Monday’s action? Rest assured, you probably weren’t alone.

If you’re attempting to go short here across any of the indices and had your stops ran on Monday then kudos to you for maintaining discipline. However, you just may be missing out on more of the fun of a potential downmove. Hard to say because my crystal ball is in the shop and for some unforeseen reason I’m not omniscient. It really makes me mad that I can’t call the exact turns of the market. Oh well. I still think a downward short-term bias is in effect and eventually the perceived risk indexes(Russell 2000 & NASDAQ) will finally pull down the “Great Proxy”, the S&P 500.

So far, so good for the S&P 500 as it set new highs this week…and has promptly come off those highs. Is that strong price momentum? Have a look at the daily action in the VIX. It gapped down to start the week and within 3 days that gap has filled, but still yet, the VIX is still down around all-time lows.

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The MACD has been a pretty simple and fair indicator to clue traders in when the volatility is going to start spiking. Observe at the green lines that every time the MACD turned upwards, the VIX was usually in the early stage of an up-move. Are we at another up-move right now? It feels like it. If things get dicey, a quick move up to 20 on the VIX could easily occur.

A couple of weeks ago, SentimentTrader shared a chart depicting the VIX Put/Call Open Interest Ratio. It puts on full display what the current option action on the VIX is saying about volatility. Judge for yourself:

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There are plenty of messages being communicated very loudly and clearly by the markets. These aren’t esoteric signals that only the true professionals can divine. Anybody with the ability to read and some dial-up internet internet service can see these messages…more power to you if don’t have to result to a screeching connection via Juno or NetZero or whoever the hell provides dial-up these days. Also, to any readers who currently utilize dial-up to access this blog, please excuse my insensitivity.

Things are happening in the markets such as defensive rotation. Utilities have performed fantastically so far the past few months while the rotation to staples vs discretionary appears to have begun. Less and less issues are hitting 52-week highs despite the DOW and S&P 500 sitting near their own highs. Treasury rates continue to drop. Wal-Mart missed fairly big on YoY Q1 income. High-flying tech and small caps have already come off pretty hard and these are where the risk is allocated. Social media sites trading at P/E’s in the multi-hundreds. Biotech stories being sold on a wing and prayer for ridiculous valuations.

High-flying tech and small caps are part of what I call the 3-legged risk stool that are sort of propping up the animal spirits of the entire, current stock market. Two of those legs have been kicked out, so to speak, and yet still the S&P 500 hasn’t really shaken out the bulls. The third leg of the shaky risk stool and thus potentially the ultimate catalyst for a correction in the broader markets is junk bonds, I suspect.

If junk bonds correct here within the next 14 to 60 days, with remaining weakness in the NDX and RUT, then things can get real hairy, real fast for people who are poorly positioned for the move. Have a look at what Kimble shared over at his site a few days ago,

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So then what could be a catalyst besides stiff resistance? Oh I don’t know. Maybe the humongousest junk bond issuance in financial history. Anybody remember seeing this near the end of April?

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The markets have a funny tendency to act a little wonky after the largest-ever of anything occurs.

The action this week has that sort of a backdraft feeling to it. In case you never saw the movie, a backdraft(as defined by the Collins English Dictionary) is “an explosion that occurs when air reaches a fire that has used up all the available oxygen, often occurring when a door is opened to the room containing the fire.” Buyers potentially get a final pull into risk assets before an explosion outwards for a fast and hard move down after the right catalysts make their presence known.

Despite the already well covered move down in the Russell 2000, it appears as if there is plenty of room for a continuation downward. If you’re trading IWM, then keep your stops at an appropriate level. Biotech’s IBB essentially bounced off it’s 38.2% retracement using the week of August 8th, 2011 as your starting point for a quick Fibonacci analysis. A cautious short in IBB with the potential for further selling down to between $200 and $205, may yield a nice return during this summer. In a previous post, I had stated that I thought coffee was setting up for a short but my favorite indicators were not providing a green light just yet. Well those indicators finally gave their green light. If you’re feeling brave you can follow me on a short of JO with approximate targets of $35 and $30, if the selling momentum really gets going.

The list of investing icons who are advising caution continues to build. We’ve had mutual fund heroes like Romick of FPA and Yactkman share their thoughts months ago on building cash levels. Klarman, Marks, and Grantham have given the thumbs down. Now we had David Tepper, Mr. Highest Paid 2013 Hedgie, providing his valued insight on these precarious markets. It may not pay to listen to or heed a blogger like myself. That’s for you to decide; but you can’t dispute that it pays to heed what these most esteemed gentlemen have to share.

Early to the Unattended Short Party Again

Just wanted to apologize for a lack of posting activity. For newer readers expecting a little more activity, it gets tough around the holidays with family demands and traveling. My goal going forward is to post at least twice a week, and at the very least, once a week. I know that’s not on par with your favorite daily reads, but I hope I can continue to potentially add value to your investment life.

The markets just keep running, even with this past week’s slight consolidation. Hell, Friday’s pop was enough to put the S&P 500 at basically even for the week, the Russell 2000 a touch off the highs for the year, the NASDAQ at post-2000 highs, and the DOW in the same position as the Russell at a touch off the highs. Some consolidation, huh? Previously, I reasoned that a correction was on the horizon and illustrated with some charts why I thought that a correction was imminent. The results…

WRONG! The markets have been looking like a small blow-off would occur since the summer. Those signals were all false though and chartists who have been attempting to short the market keep coming up just that…short. The lesson that you should not fight the Fed keeps getting firmly taught in 2013, as noted by the under-performance of hedge funds, shorts artists, and tape readers. None the less, have a look at the following set of charts from several weeks ago. In a normal world that’s not flooded with liquidity chasing up financial assets around the world, these charts would generally portend of a change in trend. However, this ain’t a normal world to be speculating in.

These charts depict several factors of risk taking and risk abating, which one would think would normally affect the greater markets. Divergences abound and yet the rising continues. Observe:

1. SentimentTrader displayed the Rydex family of funds’ 12 year low in assets allocated to their money market funds

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2. The stock to bond ratio – one of SentimentTrader’s daily charts showing periods of over/under value in equities

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3. S&P 500 to JNK (junk bond ETF) – notice the previous downturns in the S&P 500 earlier this year when JNK turned down

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4. ZeroHedge provides a Bloomberg terminal snapshot of a nosedive in IWM shares outstanding while price remains stable

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5. Here’s another junkbond relative performance chart. Apologies to the author. I forgot from which blog I nicked it.

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6. Courtesy of DecisionPoint, going back to to 1999 one can see what a divergence from the PBI for the SPX generally means for the SPX

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Alright, enough with the slide show. There are so many more squiggle pictures that chartists could call upon to attempt to prove that a downturn is imminent but why bother? Liquidity is not going to dry up. Interest rates aren’t going to spike up past 6% and send the planet into recession tomorrow. Based on the performance of equity markets and despite a ton of divergent indicators, I’m beginning to get the feeling that the markets may just consolidate in a semi-volatile sideways range. There’s a real possibility that the markets just bounce along up and down plus or minus 1% – 3% into the new year before resuming an advance.

We keep coming back to this now overly used quote from 2007 by Chuck Prince, former head of CitiBank: “As long as the music is playing, you’ve got to get up and dance. We’re still dancing.” This little gem has popped up almost everywhere in the financial blogosphere recently, so I figured I’d find a gratuitous reason to post it too as it is quite apropos. Good old Chucky “Cheese” Prince made this statement at the peak of the markets back in 2007 because he knew how unstable things were and yet he continued to allow the SIFI(systemically important financial institution) he ran to trade and underwrite garbage.

And while I’m at it, in case you don’t know what the co-crown prince of golden parachutes looks like; here’s his picture. Truly a face you can trust with managing hundreds of billions.

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For those ill-informed about Mr. Prince, he walked away from Citi with a cool $100M for overseeing the destruction of the bank. The reason he’s a co-crown prince of the golden parachute set is because he shares the crown with Stanley O’Neal, but I digress. We’re talking about the potential for a sideways consolidation in the market and not rehashing sour grapes on a who’s who behind the SIFI’s that have changed our world as we know it. As for speculative advice, well I have exited my short positions. I hedged my last move against the SPY and simply broke even. I’m currently taking a step back and allowing for the picture to clear up a little for a trader such as myself.

In my next post, I intend to touch on what matters and what doesn’t matter anymore in finance, investing, and economics. And there just may be a hint of informed sarcasm. As for speculating, if you are positioned long, stay long. Enjoy your paper profit ride, but don’t forget to mind your stops and make those profits real if needed. If you’re trading and miss the lack of real volatility, then now may be a good time to catch up on some insightful reads. Seriously, look at that picture up above one more time. Tell me that’s not exactly who my last post was describing. Cheers!