The Last Gasp

As you know by now, I think we are in the final stages of the topping process in major markets.  This is going to be a multi-month affair.  I suspect the top and crash begins later next year, but so do many other pundits, pros, and bloggers which makes me leery.  There’s nothing worse than contrarian consensus by large groups in the game of speculation.

Like its predecessors, the crash won’t look like one at first.  Sure, players will get scared and react but then we’ll see a bounce off the first initial move to the downside.  This will be an opportune time to liquidate positions to make a final cash raise to either capitalize during the crash or wait for the inevitable value opportunities that will arise.

There is a set of indicators that go along with this move downward and bounce that has proven efficacy as a guide.  It’s the 5 month and 10 month Exponential Moving Average (“EMA”).  Observe.

SPX - 5 & 10 Crossover (10-10-2016)

These aren’t magic indicators.  I’m not saying they are guaranteed to work.  I’m only saying they’ve proven themselves as guides when a real bear move has begun.  There are a multitude of economic and financial indicators that I also like to use along with anecdotal evidence, too.  Keeping an eye on this particular set of EMAs however can potentially keep your losses to between 10% and 15%, assuming you act.

In a bear market where there’s the potential for a halving of portfolios, I’d say 15% in losses is solid.

Volatility in the biggest asset classes will be unimaginable.  The algorithmic, high frequency trading operations in combination with central banks have broken all markets.  There will be no liquidity for the big timers when the bear begins.

HFTs are the true market makers and all algorithms are written to pull away and sell when bottoms fall out of markets.  Look at the S&P 500 in May of 2010.  That was really the first indication that markets would never liquidate in a typical fashion ever again, until HFTs are properly regulated, taxed, or removed from existence in markets.

There are plenty of examples between May of 2010 and now, but the move in the pound sterling at the start of October provides such a fine illustration.  What’s more liquid than the currency markets of the most developed and powerful Western nations?

Nothing.  And yet still we see the destructive power of HFT on any market.  Does this look normal in a power currency?

Sterling Madness (10-16-2016)

In earlier Asian trading, the intraday damage was even worse.  Observe this bit of madness.

image

These moves are a product of liquidity being immediately vacuumed from the asset classes where all the largest players play.  This will happen again and again when the markets make their final turn.

You can liken it to a hull breach for an astronaut in space without a suit on.  One second astronaut HYG is floating around the lab in a jump suit, happily conducting experiments with OPM.  But OPM in high-yield instruments in a low-yield environment can be a volatile material if not handled appropriately in a proper setting and an explosion occurs breaching the hull, sucking HYG out into the liquidity-free vacuum immediately to death.

Did I say liquidity?  I meant oxygen.

You get the point.

Coming back to what a last gasp means; it means there will be a final run in risk assets to squeeze out the final profits of this bull.  Many, including myself, have called it a melt-up, but I grow weary of the term.

Please don’t be fooled by some of the ignorance being freely proffered out there that we are in the early years of a cyclical bull, similar to 1982.  We are not.  The evidence is broad, clear, deep, and obvious.  One needn’t a fancy finance degree or years managing wealth in order to see this.

The end game is here, but not before that last gasp for profits that I keep describing.  I suspect that many of the sectors that powered this bull market prior to 2016 may reassert themselves to take us home.  Why is that?

Interest rates.  Plain and simple.

Those with access to leverage at these historically low rates will borrow capital to fund buyouts and takeovers which will drive asset prices upward.  The upward move will then draw in speculators looking to hop on the trend or front-run it.  This quest for yield whether in debt, equity, or private equity i.e. IRR, will be the fuel for the last gasp up in asset prices.

Despite what I think may happen in semiconductors or social or biotech or emerging markets as risk-on gains speed, keep your eyes on the one asset class that has taken out all comers in 2016.  The Rocky Balboa asset class for the year.  You know what I’m referring to and this is even with the recent sell-off.

2016 Performance Chart (10-16-2016)

Precious metals.  You don’t have to love them or hate them.  Opinions don’t have to be binary.  Be agnostic when speculating.  Follow the trends.  Follow the money.  More importantly, follow central banking and political lunacy.

Let’s look at one more chart that potentially validates that this bull market is long in the tooth.  It depicts the times over the last 50 years when payouts to equity investors have exceeded  profits.

Total Payouts via ZH (10-11-2016)

You can ignore what is glaringly obvious or you can prepare.

Speaking of obvious, let’s begin to wrap this post up with another pithy little ditty of a quote, this time from one of the world’s great speculators.  It’s been reprinted time and again, but it’s simple yet brilliant message is timeless.

I just wait until there is money lying in the corner, and all I have to do is go over there and pick it up.  I do nothing in the meantime.

– Jim Rogers

I haven’t touched on trading since the summer and I just wanted to share some set-ups that appear to potentially be building little piles of money in a corner waiting to be picked up.

Keep an eye on these sectors, either short or long:

Short:  sugar, energy(big 3), US dollar, and technology

Long:  grains, bouncing precious metals, and the pound sterling

Despite your opinions, never forget about counter-trend rallies, even in the face of what appears to be an unstoppable trend.

Analogous Equities Markets – 1970’s & 20Teens

Secular bull? Or bear about to do its thing on “unsuspecting” market players? These are questions making serious rounds on the world wide interlinking-web. That’s because fear sells and nothing gets eyeballs and clicks for the user-ravenous financial sites like some market-topping bear talk.

If you were alive and investing in the 70’s, or like myself, have read up on the stock market action of the 70’s then one can see how similar the two time periods seem to be acting(at least in the S&P 500). Don’t worry, I’m not about to hit you with yet another comparison chart of some calamitous US financial event laid over current action. Instead, I’d like to share some work by Lance Roberts. For the record, I like those comparison charts but I also take them for what they are…entertainment. At best they’re another useful input and at worse they’re just noise.

If you’re unfamiliar with Mr. Roberts, he consistently writes compelling market pieces. I happen to think he’s one of the more under-appreciated financial commentators on the web right now. He’s the co-founder and general partner of STA Wealth Management. Earlier in the year, Mr. Roberts shared some graphs comparing current times to the secular bull formed in the 80’s and the fakeout in the 70’s. At STA they definitely have Austrian economic tendencies in their communications regarding the markets, and so obviously can lean toward a more bearish stance at times. Or as other Austrians call it, just being realistic in light of all the economic data readily ascertainable.

They have significant assets under management of approximately $500 million to $600 million, so these guys are the real deal. Specifically, they focus on the client who possesses low six-figures to approximately $5 million in capital, so they’re not exactly whale hunters. STA feels that market is an underserved niche of wealth management. I’m not trying to plug their services nor do I have any relationship with their firm. Like other commentators or service providers I include in my posts here at MarginRich.com, I’m fairly certain STA doesn’t even know this blog exists. I just want to share with my readers another financial blogger whose work I really enjoy. You can also find work by Lance Roberts at Advisor Perspectives, home of dshort.

Now back to the charts Roberts shared in January. The first one shows a direct comparison of the current period to the false breakout of the late 60’s into what looked like a new bull going into 1973.

clip_image002

As we all know, The recession starting in 1973 was one of the worse times to be in the stock market in its history. The next chart shows the S&P’s performance and the realization of the false hopes for investors during those time periods.

clip_image004

Sorta looks like the decade of the Oh-Oh’s, except the action up to 1973 produced higher highs. As opposed to what we experienced in 2000 and 2007 in the S&P 500 with virtually equal tops. The reason for that was obviously all the capital was pouring into the NASDAQ in 2000.

Moving on to the last chart. Roberts shows the total picture with the final washout in 1981 and the true beginning of the 18 year mega-secular bull market that helped to explode the growth of the mutual fund and retirement investing industries. Of course there were up’s and down’s during the real secular bull, but boomers blessed with the easiest time to make buy and hold gains during peak earning years helped to build the academic case of always investing in stocks for the long run. Not that I want to get into any philosophical debates on investment strategies or the level of difficulty of investing through the 80’s and 90’s. I use the term “easy” through the lenses of hindsight.

clip_image006

The point of sharing these charts is to increase awareness that this 5 year run that America has been on off of the 2009 lows, may not be the start of a real secular run like we saw from 1982 to 2000. In 1982, the conditions were more like a final “cleansing”, so to speak. The new CEO of America was instilling a lot of genuine hope and assuaging genuine fears with genuine actions, not lies or baseless rhetoric. Valuations were exceptionally low with single digit P/E’s and very enticing dividend yields across the market. Price inflation had been beaten back by the last semi-responsible Fed head.

Simply put, these are not conditions that exist today. In fact, the exact opposite of each of those conditions exist today. I understand that the music is playing but do you want to keep dancing? Conditions are decidedly different due to deep distortions across the financial landscape. But hey, I’m only one voice of many and if you’re one of plenty of people(including professionals) who think we’re in the midst of a secular bull market, then by all means keep putting new money to work. However, even if you’re dollar cost averaging and you don’t believe in “timing” the market, now may be a time to build your cash levels.

Don’t just take my word for it. In a previous post I cited some thoughts shared by Seth Klarman and Jeremy Grantham. They each communicated their fears of the frothiness of these markets but that the markets will continue to move higher before an inevitable bust. Now the inimitable Howard Marks has essentially shared the same sentiment in his latest Memo From Our Chairman. Collectively, these 3 gentlemen help oversee more than $200 billion in assets under management. In addition to their combined multiple decades of experience, their respective savvy has made each of them billionaires. Now if scions of the investment world such as these fellas are telling you to be cautious, do you really want to be the rebel without a cause out there allocating your capital based on the premise that trees DO grow to the sky?

Look I know the path of least resistance for the markets is up and I’ve reinforced that in previous posts. It’s just that based on the distortions, it really feels like a reckoning is coming. And just some basic cycle research yields a time table of approximately 12 to 24 months from now for some potentially tough times as an investor. I’m not talking about exiting the markets entirely. I’m talking about raising cash levels to be prepared when the real values potentially present themselves and minding your stops. Next time I’ll share some hopefully enlightening charts and thoughts on those aforementioned distortions.