Behind Closed Doors

Known for being press shy, unlike some hedge fund managers, Paul Tudor Jones broke onto the trading scene with a splash by calling the 1987 stock market crash just days before it happened. So it was big news this week when it was revealed that Paul Tudor Jones, at a closed door meeting this week at Goldman Sachs, said that the Federal Reserve should be freaked out by this one “terrifying chart”. The chart in question also happens to be Warren Buffett’s primary indicator of market valuations.

It makes for good headlines but we have to say we have followed this chart for years and it is not a very good timing indicator for market corrections. However, it is a very good guide to the valuation of the overall market here in the Unites States and it is quite high. Market s can stay irrational longer than you can remain solvent betting against them. Interest rates and ballooning central bank balance sheets have pushed asset prices around the world to new heights.

It remains to be considered that IF central banks ever stop buying or, god forbid sell, then markets should fall. More interestingly, Jones said that the catalyst to the market fall will be risk parity funds. A bit inside baseball but, basically, the explosion of risk parity funds is based on momentum. The lower the market goes the more risk parity funds will have to sell equities. It could exacerbate any run in the market just as it has on the upside. :

We have been weighing in on the active vs. passive debate in the last few weeks as we feel that we have reached an inflection point. We believe that the pendulum swings back when it reaches extremes and we believe that we may be at that point. Think of it like this.  If everyone is invested 100% in ETF’s, passive management, then wouldn’t it be prudent to employ an active allocation to try and capture what inefficiencies are created by blindly piling en masse into ETF’s. We have been vocal proponents of the benefits of passive management but the pendulum may have swung too far and more evidence, however anecdotal, was presented this week by the creation of an ETF for ETF’s. An exchange traded fund (ETF) was created this week to follow the companies that benefit from the growth in the ETF industry. Maybe sometimes they do ring a bell. Time for more research.

Congress has been closed so the Trump Reflation obsession was put on hold and investors and media grew obsessed with geopolitical concerns with a spotlight on the French elections and North Korea.  Rates are falling while gold is rising. Fear is rising as some are reaching for protection in what is known as the “fear trade”. A move to gold and US Treasuries is the usually accompaniment when fear rises, especially in light of geopolitical concerns. Investors have become a bit more defensive. We may see rates rise and gold fall when Congress gets back into session.

Last 30 minutes of trading thesis has been inconclusive so far. No definitive pattern yet. Market seems to be in a consolidation pattern. The market seems to be digesting its gains and gathering itself before a move to a higher summit. Markets do not top out like this – spending weeks at a given level. The odds are that markets, when leaving a consolidation phase, move in the direction in which they came in.

I  think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

Published in: on April 22, 2017 at 6:31 am  Leave a Comment  
Tags: , , , , ,

Witches’ Brew

Witches’ Brew

It is a witch’s brew that the policymakers in Washington DC are conjuring up and it is not making things easy for investors or even other policymakers. While the 8 years since the financial crisis were filled with monetary policy band aids  Federal Reserve Governors never had to manage the delicate balancing act of the merger of their monetary policy with fiscal stimulus from the Legislative or Executive branches. Much as they begged for fiscal policy it never arrived. Now with Congress and the Executive branch controlled by the Republican Party, tax reform, deregulation and infrastructure are the current beltway buzzwords.

If you haven’t been keeping up with our Quarterly Letter  it is our current market view that the odds are high and rising that we are going to have some sort of error in monetary and/or fiscal policy. The combination of experimental central bank monetary policy and the Trump administration’s stated goals, if not enacted in concert, raise the risks that something is going to break. Those stated policy goals, while giving the Federal Reserve cover to raise rates, also make the Federal Reserve’s exit from their easy money polices of the last 8 years particularly tricky. To be frank their exit was never going to be easy.

This high wire act by the Federal Reserve entails anticipating the moves of not only the Trump Administration but also the response from Congress to the administration and as we have seen in the last few weeks, predicting Congress’ reaction may be the most difficult part. On March 15th the Federal Reserve chose to raise interest rates as the Trump Train was seemingly rolling down the tracks towards, first, healthcare reform and then quickly on to tax reform. But, only days later, markets were disappointed in the lack of policy movement on the ACA or “Obama Care” as it failed to even make it out of committee. This failure seemingly put the rest of the Trump agenda at risk. Federal Reserve policymakers are very carefully considering the policy that is coming out of the White House and Congress and plan to adjust monetary policy accordingly but they are having a difficult time predicting what will or won’t become law. They are now taking into account fiscal policy in their discussions for the first time in 8 years and predicting what the policymakers in Washington are going to do which is anything but easy money.

Any policy error could resolve itself in one of two ways. If central banks drag their feet and raise rates too slowly then that policy error could continue to incite animal spirits and drive equity valuations even higher, possibly to bubble like valuations. The Fed is also wary of the fact that there is a possibility that if they were to move too quickly they could throw cold water on the recovery especially if Trump’s fiscal and tax objectives get bogged down in the swamp – which we think they already have.  Equity prices could then fall sharply.

So far, it appears that the policymakers at the Federal Reserve are moving too slowly as the animal spirits of the market are winning. In fact, as the Federal Reserve was raising rates on March 15th they reinforced the narrative that they would move slowly with their statement in the press conference afterward. The Fed has been consistent in stating that 2% inflation was a target of theirs. In her latest press conference, Yellen made it clear that the 2% target is a target but not a “ceiling”. Additionally, her comment that the return to 2% inflation should be “sustained” made it clear to the market that the Fed is okay with letting the economy run “a little hot”.  The market took that as an all clear signal to take valuations higher as the Fed made it apparent that they are in no hurry to raise rates and slow this rally down.

Their statements made it seem as though the Federal Reserve feared a negative market reaction so much that they needed to couch the rate hike with statements to cushion the blow. That reinforced markets feeling that easy money is here to stay and markets turned higher in anticipation of a continuation of the easy money policy that we have seen over the last 8 years.

The market valuations are quite elevated at present time and rising. The possibility of a policy error by the Federal Reserve and/or the Trump Administration only looks to be increasing while increased valuations increase the repercussions of any policy mistake. We have been of the belief that a policy error could set the stage for a substantial rally and then fall ala 1987.

As the market has combined the clamor and excitement over deregulation and tax reform with a slow moving Fed you have room for the Animal Spirits to run as investor euphoria takes hold. A 30% run from the lows before Election Day, much like 1987,  (we are up 12.5% from Election Day as we write) would put us squarely in bubble territory as the S&P 500 would approach the 2750 area. A subsequent 30% retreat would bring us back to the 2000 area. Currently at 2360 on the S&P 500 one can see the potential for misstep by exiting one’s holdings completely and trying to time reentry. One solution is that we dial back risk as we see markets rising and adding risk when the risk premium is more in our favor. We will always make sure that we have the ability to buy when discounts come.

The Fed must attempt to act in concert with the President and his fiscal policy to avoid overheating or stalling the economy but good luck to them anticipating his next move and /or Congress’ reaction to his moves. Raising rates is not an exact science in the best of times but Washington DC seems hell-bent on confounding even the best informed or best intentioned.

Until Something Breaks

In his latest webcast last month, Jeff Gundlach, the current bond maven on Wall Street, made it clear that he expects the Federal Reserve to begin a campaign of sequential interest rate hikes until “something breaks”. In Cashin’s Comments last month, Arthur Cashin notes that David Rosenberg’s (Gluskin Sheff) research shows that since World War II, the Fed has embarked on 13 tightening cycles. Ten of those cycles led to recessions. While we do not see a recession on the horizon we do believe the Fed is behind the curve and may need to hike more aggressively than they would like. That will create imbalances throughout the system much like the sequential rates hikes in 1982, 1987, 1990, 1997 and 2007. The crises that raged in the aftermath of those rate hike cycles ranged from the Latin American debt crisis in 1982 to the S&L crisis in 1990 to the subprime debt crisis of 2007.

The rate hike on March 15th is the third rate rise of this cycle with the stated goal of two more rate hikes in 2017.  The old Wall Street adage is 3 hikes and a stumble. Wall Street lore suggests that the third rate hike is when markets start to falter. The Fed is damned if they do and damned if they don’t. It’s a guessing game with imperfect information. This is the kind of decision a trader makes and not the kind that academics make well.

The reality is that the Fed may be so far behind the curve that this rate hike, the third of this cycle or even the fourth rate hike doesn’t affect the market but sooner or later the Fed will hike and something will break. They are academics and they do not anticipate change. It’s like driving using the rear view mirror (h/t BR). The data that they rely on is from the past and doesn’t show when the trend has changed. They will hike until something breaks.

 Bumps in the Road

What other bumps in the road do we see? We are watching very closely not only the developments in Washington but also in Riyadh. The oil market may be our best hint as to what is going to happen next. The oil market and the high yield bond market are very closely related as much of the loans in the high yield sector have gone to oil related operations. Any falter in the price of oil could have further consequences and ripple effects across the economy. Oil has hit it own speed bump as West Texas Crude slipped below the psychologically important $50 a barrel level. As so goes oil so goes the economy and the stock market. If oil slips, so may stocks. High yield bonds may be our canary in the coalmine here.

Our biggest worry over the next several months is the impending Debt Ceiling negotiations in Washington. The Freedom Caucus is a group of Republicans that skewered the Obama Care replace and repeal. They have become a very powerful group in Washington all of a sudden. They are no fans of raising the debt ceiling. This could turn into a showdown with massive repercussions. In June of 2011, February of 2013 and October of 2015 we saw circumstances where we have been faced with debt ceiling negotiations. Two out of those three events saw markets move lower in response. It is about time that Congress took away the uncertainty surrounding this biannual discussion. Let’s see how far they push things this time. Warren Buffett once said that he did not like to invest when there was possible government intervention and over regulation in a business. We are all invested in what comes out of Washington DC now.

In the investing game it is worthwhile to follow retail investor money flows. It is the retail investor that is usually late to the game and the marginal buyer at tops in the market and a seller at the lows.  Retail investors are currently pouring money into equity ETF’s as shown by the fact that the S&P 500 ETF (SPY) had its largest inflow since 2014 last month and its second largest daily inflow since 2011. We also watch closely the movements of corporate insiders. While we place a premium on insider buying, insider selling should be taken with a grain of salt. (There are many reasons to sell. There is only one reason to buy.)As per a report from CNBC company insiders are dumping stock into the marketplace at accelerated rates.

By way of Arthur Cashin, we see that according to Jason Goepfert at SentimenTrader hedge funds are also pulling back.

“After reaching one of their most-exposed levels in 15 years, hedge funds have started to lessen their positions in stocks. There have been three other times that they were as exposed as they were in the past month, and when they started to pull back and volatility rose, stocks fell hard, fast.” 3/24/17

Valuations are quite extended and perhaps rate hikes will bring things gently back to earth. Much is being made of the idea that there seems to be a global upturn in economies. The global upturn and Trump’s policies could provide more cover for the Fed to raise rates to try and cool valuations off. You have to remember that they are not the only central bank adding fuel to the fire. Japan, China and Europe are all doing the same.

Heisenberg Uncertainty Principle

There is always something to worry about but currently there are too many investors on the same side of the boat. One of the best ways to generate alpha or excess returns in the last 8 years has been to BTD. Buy the dip. It is actually BTFD but we are too polite to write that. Traders have been conditioned over the last 8 years to buy every pullback in pricing.

The Heisenberg Uncertainty Principle, from German physicist Werner Heisenberg, shows us that simply the act of observation affects the particle being observed. (The original version of the uncertainty principle appeared in a 1927 paper by Werner Heisenberg, a German physicist, titled “On the Perceptual Content of Quantum Theoretical Kinematics and Mechanics”.) In investing, we see the Uncertainly Principle at work when the market observes an outperforming strategy, subsequently, that strategy will then begin to lose its outperformance.  That is why you see investors all on the same side of the boat. When investors observe an outperforming strategy they pile on. All those flocking to the same side of the boat decrease the odds of outperforming and raise the risks of underperforming. When you find the key to the market they change the locks.

Our job is not to predict the future but to manage risk for our clients. History tells us that future returns are, in good part, reliant on starting at low valuations and that when beginning at high valuations we see lower than average returns. It is prudent, at this juncture, given that valuations are currently in the highest 10% in history, that we take some risk off of the table for our more risk averse clients. We will continue to press our bets for our more aggressive clients but we have one hand on the brake.

A lot depends on the perception of the Trump Administration post vote. Is tax reform coming or has the swamp won? We believe that the last 30 minutes of trading each day will give us clues as to what managed strategies are influencing the market and whether the big intuitions are leaving the market.  We still think that this could be the last 10% of a move that started in the post 2008 crisis period as valuations are rich. It is awfully hard to predict time and direction but we believe that given historically high valuations it is prudent to trim down risk (and accept possibly lower returns) until the risk premiums are more in our favor. We believe that a move lower at this juncture will be met with buyers down 5-8% from the highs while history tells us that the old highs will be approached once again. That is when the real decisions will need to be made.

 Moreover, the years ahead will occasionally deliver major market declines – even panics – that will affect virtually all stocks…During such scary periods, you should never forget two things: First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy. It will also be unwarranted. Investors who avoid high and unnecessary costs and simply sit for an extended period with a collection of large, conservatively-financed American businesses will almost certainly do well.Warren Buffett

 I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein CEO of Goldman Sachs

Published in: on April 8, 2017 at 10:59 am  Leave a Comment  

Did the Swamp Win?

Trump Care, Obama Care or tax reform? It was really all about tax reform and not the Affordable Care Act (ACA aka Obama Care).  The shelving of the vote for reforming ACA may lead to markets being buoyed by the fact that Trump will now move on to tax reform.  It was never really about the ACA replace and repeal for Wall Street. The market was just looking for this to pass so that the administration could then move on to tax reform. A shelving of replace and repeal allows the administration to move on to tax reform as the ACA dies a slow death. Remember a yes vote would have just sent it to the Senate where it would have moved at a snail’s pace distracting the administration, delaying tax reform and distracting markets.

Lots of warning signs. The technical aspects of the market are growing less positive. Markets had reached such overbought levels that the next thought from market analysts is to say that there is negative divergence. In English please. Suffice to say that just means that the next up move will not have the same firepower as the last one and market participants could get nervous and pare back longs. By way of Arthur Cashin, we see that according to Jason Goepfert at SentimenTrader hedge funds are pulling back.

“After reaching one of their most-exposed levels in 15 years, hedge funds have started to lessen their positions in stocks. There have been three other times that they were as exposed as they were in the past month, and when they started to pull back and volatility rose, stocks fell hard, fast.” 3/24/17

 Ally Financial and Ford Motors both warned about a drop-off in the car market here in the US. Ally Financial slashed their earnings outlook as they see the worst used car prices in 20 years. Make sense. Have you bought a new car lately? It’s not a car. It’s a computer and we all know Moore’s Law and how our technology gets outdated quickly. Used cars are not nearly as safe as a car made today and the technology is improving rapidly. Pretty soon insurance companies are going to catch on that it is much less likely that a new car is going to get into an accident than a used car without all the latest safety technology. Morgan Stanley came out this week and said that the latest offering from Tesla will be 90% safer than cars currently on the road. Buying a used car in the past seemed frugal. Now it seems almost reckless. Used car prices are dropping. Since the crisis, banks have been extending the length of car loans from 3 years to 7 in some cases. Oops! The banks may have done it again!

This week the market actually saw a daily decline of over 1%! That is the daily decline of 1% or more since October of last year. Think we were overdue?  Turns out that Eric Mindich, of Goldman Sachs fame is getting out of the hedge fund business. That may have helped contribute to the weakness we saw this week. Mindich’s Eton Park hedge fund ran over $12 billion at its peak. It is now returning money to investors and market players may have shorted stocks in front of the liquidation of their positions. A time honored Wall Street tradition of making money off of someone else’s demise.

RBC’s Charlie McElliggott has been proffering some interesting analysis by way of zero hedge. Click on the link for more detail. Careful it gets a little wonky. Suffice to say that Mr. McElliggott seems to be saying that the more volatile things get the lower the market will go. If things stay quiet the market will continue to levitate. Keep an eye on the last 30 minutes of trading as they are the “tell”. He also goes on to say that more and more money is going into the same trades and strategies. Same side of the boat theory. Never ends well when everyone is leaning the same way. We couldn’t agree more with McElliggott and his team at RBC.

A lot depends on the perception of the Trump Administration post vote. Is tax reform coming or has the swamp won? Keep an eye on the last 30 minutes of trading.  We still think that this could be the last 10%. Markets are a touch oversold but caution must still be paid.  We are pressing the bets with our more aggressive clients but pulling back for our more risk averse. A move lower at this juncture should be met with buyers down 5-8% from the highs while history tells us that the old highs will be approached again. That is when the real decisions will need to be made.

I  think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

This House is Rocking

Janet Yellen seems petrified of scaring the market. We have news for her. At some point she will. It’s her job to take away the punchbowl when the party gets started and this house is rocking. The Federal Reserve uptick in interest rates, while widely telegraphed, still managed to surprise markets by it being couched in the most dovish way possible.

How did Janet Yellen do that? The Fed has been consistent in stating that 2% inflation was a target of theirs. In her latest press conference, Yellen made it clear that the 2% target is a target but not a “ceiling”. Additionally, her comment that the return to 2% inflation should be “sustained” made it clear to the market that the Fed is okay with letting the economy run a little hot.  Janet Yellen may have to talk back the market’s reaction this week from her dovish rate hike. The market reacted positively which we expected but we did not expect the extent of that positive reaction.

surprisingly, financial markets took the meeting as a large dovish surprise—the third-largest at an FOMC meeting since 2000 outside the financial crisis, based on the co-movement of different asset prices.” – Goldman’s Jan Hatzius 3/15/17

The risk is that the market and economy may overheat. There is also a risk that the Fed could throw cold water on it if Trump’s fiscal and tax objectives get bogged down in the swap which we think they already have. The Fed is damned if they do and damned if they don’t. It’s a guessing game with imperfect information. The kind of decision a trader makes and not the kind that academics make well. The time is ripe for a policy error. Now whether that error takes the market higher or lower depends on the action of the Fed. Right now by portraying this rate hike as dovishly as they did the animal spirits in the market are taking things higher. Next week should tell us a lot more about how the market feels.

The Fed is boxed in. A canary in the coalmine, small-caps keep sagging. The Russell 2000 dipped into negative year-to-date territory on Tuesday morning. There was nary a mention of the debt ceiling that was reached this week. This is going to be a problem and, possibly, with the rancor in DC, it could become THE problem. The Treasury only has about one month’s cash on hand. Less than Google or Apple have on their books.

Yellen raised rates but couched it so dovishly the market rallied. She is afraid of a negative market reaction. She should be afraid of a positive market reaction as the real reason she raised rates was to cool off the market. Market seems ready to continue its running with the bulls as we suspected. This could be the last 10%. Caution. We are pressing the bets with our more aggressive clients but pulling back for our more risk averse.

I  think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

Published in: on March 18, 2017 at 9:00 am  Leave a Comment  
Tags: , , ,

Until Something Breaks

Until something breaks. The old Wall Street adage is 3 hikes and a stumble. In his latest webcast this week, Jeff Gundlach, the current bond maven on Wall Street, made it clear that he expects the Federal Reserve to begin a campaign of sequential interest rate hikes until “something breaks”. In Cashin’s Comments this week, Arthur notes that David Rosenberg’s (Gluskin Sheff) research shows that since World War II, the Fed has embarked on 13 tightening cycles. Ten of those cycles led to recessions. While we do not see a recession on the horizon we do believe the Fed is behind the curve and may need to hike more aggressively than they would like. That will create imbalances throughout the system much like the sequential rates hikes in 1982, 1987, 1990, 1997 and 2007. The crises ranged from the Latin American debt crisis in 1982 to the S&L crisis in 1990 to the subprime debt crisis of 2007.

The question remains, will history prove right or are things different this time? I always hesitate to say “things are different this time” because that is always the death knell. It’s like when Jim Nantz says, “this kicker hasn’t missed an extra point all season” and the kicker then goes on to botch the critical extra point.  The reality is that the Fed may be so far behind the curve that this rate hike, the third of this cycle or even the fourth rate hike doesn’t affect the market but sooner or later the Fed will hike and something will break. They are academics and they never anticipate change. It’s like driving using the rear view mirror (h/t BR). The data is from the past and doesn’t show what is happening now. They will hike until something breaks. If they do not raise rates next week the animal spirits in the market may take equity valuations even higher. The Fed is boxed in.

Valuations are quite extended and perhaps rate hikes will bring things gently back to earth. Much is being made of the idea that there seems to be a global upturn in economies. The global upturn and Trump’s policies could provide more cover for the Fed to raise rates to try and cool valuations off. You have to remember that they are not the only central bank adding fuel to the fire. Japan, China and Europe are all doing the same. We see some cracks in the foundation as High Yield and small cap stocks lagged this week. It is no surprise that high yield struggled as West Texas Crude dropped 9% on the week to finish under the psychological $50 mark.

Momentum is very powerful and still in the hands of the bulls. Lots of positives out there but things are priced for perfection. Keep an eye on crude next week. Lower crude could continue to pressure high yield. High yield and oil could be the canary in the coalmine.

I  think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

Warren Buffett’s Latest Wisdom

One thing we look forward to every year is Warren Buffett’s annual letter that comes out in February. Here is more sage long term investing advice from the Oracle of Omaha.

Moreover, the years ahead will occasionally deliver major market declines – even panics – that will affect virtually all stocks…During such scary periods, you should never forget two things: First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy. It will also be unwarranted. Investors who avoid high and unnecessary costs and simply sit for an extended period with a collection of large, conservatively-financed American businesses will almost certainly do well.

We, at Blackthorn, as Registered Investment Advisors, have a fiduciary obligation to our clients. We are very conscious of high and unnecessary costs and how they drive down our clients returns. Patience, discipline, a well thought out investing plan and low costs. Do yourself a favor and ask your advisor to explain any and all fees that you pay. Mutual fund fees, 12b-1 fees, Brokerage fees, Investment management fees, and Wrap fees are all examples of unnecessary fees and costs.  If you are using a broker and they cannot easily and transparently list and explain your fees and costs to you then move on to someone who has a fiduciary obligation to you.

Beware the Ides of March is what you will be seeing all week in the investing media headlines. March 15th is fraught with stumbling blocks this year. A Dutch election is scheduled for this week which could move markets. More importantly, the Federal Reserve is meeting and March 15th is the day we reach a debt ceiling deadline here in the United States. The Federal Reserve will be meeting and they seem to be boxed in a corner. Rate hike odds according to Bloomberg are pushing 90%. This is the key move we have been highlighting for 2017. If the Fed does not raise rates markets may soar even higher as retail investors and animal spirits push into the market. If the Fed does raise rates it could pour some cold water on investors and slow the rally.

Retail investors are pouring into ETF’s as shown by the fact that the SPY had its largest inflow since 2014 this week and its second largest daily inflow since 2011. As per a report from CNBC company insiders are dumping stock into the marketplace at accelerated rates. For the moment caution must be heeded. Wall Street lore suggests that the third rate hike is when markets start to falter. A rate rise in March 15th would be the third rate rise of this cycle with the stated goal of two more rate hikes in 2017. History rhymes. It does not repeat. It could be different this time as we are starting from such a low level. For now, momentum is with the bulls but if retail investors are in charge things could change very quickly.

Stocks are still extremely overbought but this week they showed some slowing in their ascent. Stocks have run a long way and should stop to rest and acclimate to their new elevation. Finally, this week we saw a close in the S&P more than 1% away from its previous close. We have now not seen a move 1% lower in over 90 sessions.  Animal spirits are running high as retail investors are pouring into ETF’s like the SPY. We continue to be wary of market structure and overreliance on ETF’s. Late day marches higher in SPY are being blamed on retail buyers late to the party. Know what you own. No pushback on the idea that Germany should leave the Euro. Need to follow that one further down the rabbit hole.

I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

 

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

 

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

 

Back to the Future – 1987 and Trump

The Trump Rally continues as we expected. Given our thesis in our January Letter the possibility of a policy error by the Federal Reserve and/or the Trump Administration looks to be increasing. We believe that a policy error could set the stage for a substantial rally and then fall ala 1987. 1987 should not be looked at in fear but in anticipation of an opportunity. The table looks like it is getting set. Combine the clamor and excitement over deregulation and tax reform with a slow moving Fed and you have room for the Animal Spirits to run as investor euphoria takes hold. A 30% run from the lows before Election Day would put us squarely in Bubble territory as the S&P 500 would approach the 2750 area. A subsequent 30% retreat would bring us back to the 2000 area. Currently at 2367 on the S&P 500 one can see the potential for misstep by exiting one’s holdings completely and trying to time reentry. One solution is to dial back risk as you see markets rising and adding when the risk premium is more in your favor. Always make sure that you have the ability to buy when discounts come.

United States 10 year yields peaked at 2.6% in mid December and have been steadily falling back to the 2.3% level. We still think that the lows are in for the 10 year but the steady drip lower in yields has us concerned. The bond market is the much wiser brother of the stock market. The actions in the bond market have us thinking that investors see risk on the horizon. 2 year bond yields in Germany have reached new lows of negative (0.90%). NEGATIVE!! You buy the bonds and pay the government!

The Fed is struggling to make the March meeting look Live. The Fed has proposed that they will raise rates three times in 2017 and that just might not be possible if they do not raise rates in March. We believe March is the first key to understanding where equity markets are headed. If the Federal Reserve drags their feet and does not raise rates at the March meeting equity markets could overheat. Fed officials will then be forced to overreact at later policy meetings as they get behind the curve. The time is ripe for a policy error and markets could react swiftly.

From our good friend and mentor Arthur Cashin’s Comments February 23, 2017.

Is The Past Prologue? Maybe We Should Hope Not – The ever vigilant Jason Goepfert at SentimenTrader combed his prodigious files to see how many times the Dow closed at record highs for nine straight days. Here’s what he discovered: The Dow climbed to its 9th straight record. Going back to 1897, the index has accomplished such a feat only 5 other times. The momentum persisted in the months ahead every time, with impressive returns. But when it ended, it led to 2 crashes, 1 bear market and 1 stretch of choppiness. The five instances were 1927; 1929; 1955; 1964 and 1987. Here’s how Jason summed up his review: Like many instances of massive momentum, however, when it stopped, it stopped hard. Two of them led up to the crash in 1929, one to the crash in 1987, one to the extended bear markets of the 1960- 1970s and the other a period of extended choppy price action. So a little something for everyone there.

Momentum is towards higher prices. Stocks are extremely overbought. The S&P 500 has not seen a close of up or down more than 1% in over 50 sessions. Complacency is high. Machines seem to be running the market. Right now we are wary of market structure and overreliance on ETF’s. Know what you own. Keep an eye on bonds both here and in Europe. Europe is bubbling again. What if Germany left the euro? Discuss.

I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

Trump Train or Bulldozer?

All eyes are on Trump and Washington DC as the Trump Train rolls through our capital. Trump has been even more aggressive in using Executive Orders and in speaking to foreign leaders than most suspected and that has the Street on edge. Maybe we need to rename the Trump Train to the Trump Bulldozer. While most eyes are on Trump we are increasingly focused on the Fed. The Fed must attempt to act in concert with the President and his fiscal policy to avoid overheating or stalling the economy but good luck to them anticipating his next move. The Fed has made noise in recent weeks that perhaps it could shrink the size of its portfolio. The Fed has been consistent, in that, there was an inherent belief at the Eccles Building that the Fed did not need to shrink its balance sheet and that doing so would be the last maneuver in its process of normalizing rates. Ben Bernanke, former Fed Chairman, took the time out to explain in his blog why that is simply not a good idea. Could it be that politics are playing a role at the Fed?

…best approach is to allow a passive runoff of maturing assets, without attempting to vary the pace of rundown for policy purposes. However, even with such a cautious approach, the effects of initiating a reduction in the Fed’s balance sheet are uncertain. Accordingly, it would be prudent not to initiate that process until the short-term interest rate is safely away from the effective lower bound. 

…the FOMC may still ultimately agree that the optimal balance sheet need not be radically smaller than its current level. If so, then the process of shrinking the balance sheet need not be rapid or urgently begun.  Ben Bernanke

 Why is the Fed now talking about shrinking its balance sheet and not raising rates? We would like to see more consistency from the Fed. They have insinuated that three rates hikes are due this year. After taking a pass on raising rates this week and not setting the table for one in March the market is now pricing in just two rate hikes. The first rate hike is due in June and the second in December. If you have not read our Quarterly Letter you can take a peak for a further discussion on the topic. The short version is, if the Fed raises rates too slowly Trump’s policies may overheat the stock market which is at already historical valuations.

 If Fed Speak can’t jawbone a March rate hike back onto the table, policymakers will have precious little room for error to make good on their promised three rate increases for the remainder of the year. Danielle DiMartino Booth

February is the worst performing month in the October – May period but investors are heavily loaded up on equities regardless.  By way of Arthur Cashin , here are the widely followed Jason Goepfert’s notes on the market’s latest gyrations or lack thereof.

 After spurting to a new all-time high in late January, the S&P 500 has had a daily change of less than 0.1% for five of the six sessions since then. That’s almost unprecedented, but there have been times when it has contracted into an extremely tight range after a breakout. Several of those have occurred in just the past few years, and all of them preceded a tough slog for stocks over the medium-term. Hedge funds are betting that the rally continues. Exposure to stocks among macro hedge funds is estimated to be the highest since July 2015 and the 4th-highest in the past decade. The three other times it got this high, stocks struggled as the funds reduced exposure and eventually went short.

Stocks have stalled. Investors are heavily exposed to equities. February is not the best month for equities so investors aren’t expecting much. The market has a way of surprising you. Could the market finally be ready to make a move? Investors seem to be heavily tilted to the rally side of the boat.

I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

High and Rising

“Is Trump aggressive and thoughtful or aggressive and reckless?”

– Ray Dalio  Davos World Economic Forum 1/18/17

And we sit and we wait. How will Trump preside? The market and market players would have been more at ease with a Clinton presidency. She would have been easier to predict. Trump is different. He does not have years of governance or position papers in order for us to decipher his next move. Judging by his Inaugural Address, which will be forever known as the American Carnage speech, we can see that he intends to be aggressive and populist. The question remains is he going to be thoughtful in his aggressiveness or reckless? Is his aggressiveness just the first shot in a never ending negotiation? We get the feeling that everything Trump does is a negotiation and everything he says is a means to an end in that negotiation. Will it be a thoughtful negotiation or a reckless one? Businessmen like Trump tend to get their way and get it quickly. Let’s see how he feels after the first 100 days of getting bogged down in the swamp. What starts off thoughtful could become reckless.

If it feels as if we have been waiting two years for some resolution to the current market environment it’s because we have. With the exception of a one month rally that started on Election Night 2016 the stock market has gone nowhere since the ending of QE3 in late 2014. Central bank policy here in the US has been one of tightening and that has kept a clamp on equity pricing. It is with the possibility of an administration that would spend fiscally to stimulate the economy along with committing to tax reform and deregulation that the market has seen further fuel for the latest rise in equity prices.

If you haven’t read our Quarterly Letter the synopsis is that the combination of experimental central bank policy and the new administration’s stated goals raises the odds that we are going to have some sort of error in monetary and/or fiscal policy. Any policy error could resolve itself in one of two ways. If central banks drag their feet and raise rates too slowly then that policy error could insight animal spirits and drive equity valuations even higher, possibly to bubble like valuations. Raise rates too quickly and equity prices fall sharply. The current populist rhetoric has us thinking of the 1930’s. The 1930’s had tremendous rallies and stumbles in the stock market. Not to say that we will repeat the pattern of the 1930’s but things certainly rhyme with talk of income inequality, trade barriers and populist rhetoric.

Equity valuations are high and bond prices could be in bubble territory. We do not think equity prices are in bubble territory yet. We continue to lean away from bond like equities and more towards seeking value where we can find it. As for bonds, we believe the bottom to be in for yields in the 35 year bull market. Our duration is quite low and we look forward to rising bond yields as they will allow us to reinvest at higher yields.

Keep an eye on Washington and on Twitter. In the next 100 days we may find out if Trump is going to be thoughtful or reckless. The idea of the return to the 1930’s does not make us feel warm and fuzzy but we believe that the pendulum swings to extremes and back again. A populist uprising is the natural evolution of globalization. It should be expected that once populism’s peak has been reached the pendulum will swing back but for the moment Trump and populism are in full swing.

If you would like to read more of our thoughts and a deeper dive into what we see coming in 2017 follow the link below to our website and our First Quarterly Letter of 2017.

http://blackthornasset.com/investment-philosophy/outlook-qtrly-letter/

 

I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

 

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.

 

When Everyone Agrees

Here is a short blog today as we are currently writing our end of the year letter and formulating our investment thesis for 2017. Bob Farrell was an absolute legend during his 5 decades on Wall Street and finished his career on the Street as the Chief Strategist at Merrill Lynch. Farrell encapsulated his 45 years of experience in his widely distributed 10 Rules for Investing.  As our thoughts turn to what is going to happen in 2017 we find ourselves turning to his sage like wisdom. While they are all of equal importance we find ourselves drawn to #9 as 2017 dawns.

  1. Markets tend to return to the mean over time.
  2. Excesses in one direction will lead to an opposite excess in the other direction.
  3. There are no new eras — excesses are never permanent.
  4. Exponential rising and falling markets usually go further than you think.
  5. The public buys the most at the top and the least at the bottom.
  6. Fear and greed are stronger than long-term resolve.
  7. Markets are strongest when they are broad and weakest when they narrow.
  8. Bear markets have three stages.
  9. When all the experts and forecasts agree, something else is going to happen.
  10. Bull markets are more fun than bear markets.

Seemingly, every single investing professional that we read or talk has the same expectations for 2017. Experts see a January dip being bought and Wall Street’s best and brightest see 2017 returning a rather staid 5% on average according to Barron’s. We have a funny feeling that isn’t quite how it’s going to work out. When everyone agrees – something else will happen. We will be back next week with our thoughts on how we feel it is going to work out. Hope you have a healthy, happy and prosperous 2017!!

I think we aspire less to foresee the future and more to be a great contingency planner… you can respond very fast to what’s happening because you thought through all the possibilities, – Lloyd  Blankfein

To learn more about us and Blackthorn Asset Management LLC visit our website at www.BlackthornAsset.com .

A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty. – Winston Churchill

 

Disclosure: This blog is informational and is not a recommendation to buy or sell anything. If you are thinking about investing consider the risk. Everyone’s financial situation is different. Consult your financial advisor.