Fear Turns into Greed

Everyone expects the market to find resistance in the 2600-2650 level on the S&P 500 and everyone expects the market to retest its lows from Christmas Eve. When everyone expects something to happen you can expect something else will happen.

The market has moved in a relatively straight forward manner since the break down in October with December basically following a roadmap. We think that predictability is about to snap. Things may get dicey. One surprise would be a move much higher back into the 2700-2800 levels and the researchers we follow can surmise a scenario. The gang over at Nomura see trend following money managers, of which there are many, as currently short the market. The higher the market goes the more they will be forced to cover sending the market higher. At some point they will get long and the pressure to move higher will subside. The market can then move lower. Just saying. When everyone expects something to happen you can expect that something else will.

The research from the gang at Nomura says that trend followers are starting to cover their shorts. They will start getting aggressive at 2632 on the S&P.

You can almost feel the fear from Christmas Eve changing to greed or fear of missing out. When we all start to wonder why we ever sold in the first place it and want to buy it will be time to sell again.

That’s what we had to say last week. Can you feel it? The fear turning into greed. Buy when others are fear filled and sell when others are greedy. Short blog this week but you can read more from our quarterly letter at Blackthorn Asset.

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.

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Published in: on January 13, 2019 at 3:01 pm  Leave a Comment  
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Ride the Wave

We had hoped that the New Year would settle markets. It has not. Why the volatility – the severe swings in the market? A lack of liquidity. Year end markets are notoriously illiquid and if there are fewer bids and offers in the market place then there is the possibility of wider swings. Wider swings and more volatility chase investors from the market. Fewer players mean less volume which leads to more volatility. Volatility begets volatility. We entered a vicious circle of rising volatility. Markets will calm down. It just takes time.

Let’s review where we have been. Here are some snapshots of our blog posts and summary of important levels in the market.

On 12/8/2018 we stated that the S&P was in a mini range of 2625-2825 while the broader range was 2550-2950.

On 12/14/2018 the S&P closed at 2599. That signaled to us that the S&P 500 would break down to at least 2425.

On 12/21/2018 the S&P closed at 2416 and we noted that any further selling should be bought while we saw a move higher back to 2525. The low on Christmas Eve when we added to positions was 2351 – the panic low.

On 12/30/2018 we noted that the support that was located at 2550-75 is now resistance. On Friday we closed at 2531.

This is not an exercise in vanity I assure you it is an exercise deeply rooted in my 30 year career of investing. Markets have a way of humbling all investors. Over our decades spent investing we categorize our victories but also our failures. While we have been quite correct of late we ask ourselves where are we most likely to make a mistake? How have markets humbled us in the past? If we utilize that information we are far more likely to make that mistake a small one or avoid it all together. Markets in the past have tended to humble us by going far further to the upside than we expect.

In mid December we predicted a breakdown to the 2425 area of the S&P where we expected a bounce from oversold conditions. Now that we have made that move where does that bounce conclude? Recent support is now resistance so first resistance on this rally would be 2550-75. We expect markets to prove us wrong by cruising to 2600 and possibly beyond. If markets were to pass 2740 momentum players will flip from a short position, (betting on markets to go down as they are now positioned) to a long position. Once they are long that would be the moment the market turns lower.

How to play this? We see the rally stalling at 2550-2600. If the market plows thru this level we would look to hold on and make sales in the 2700-2800 area. We see investors renting this rally and not buying it but if the market were to rally far enough investors will be forced to give in at exactly the wrong time. Don’t be one of them. The market looks to make a fool of and cause pain for the most people it can. Right now the pain trade could be higher but don’t get sucked in.  We have called for an eventual fall to the 2100 area on the S&P 500 or the lows of election night.

You can almost feel the fear from Christmas Eve changing to greed or fear of missing out. When we all start to wonder why we ever sold in the first place it and want to buy it will be time to sell again. Market lore would tell us that the lows of Christmas Eve need to be tested. We believe they will. Sharp rallies remind us that this is a bear market. The next wave down will be Wave #3. Hopefully, but not guaranteed to be the final wave. The final wave is usually the sharpest. Bear markets tend to take 7-18 months. We are in month 4 from October but this bear really started back in January of 2018. That makes for a rough start to 2019.

“I’ve never made a buy at a low that I didn’t just feel terrible and scared to death making it,”  Stanley Druckenmiller legendary investor

It’s okay to be scared. Even the best investors are. They just control their emotions and take advantage of the situation. Groceries are going on sale – make your list. There is more to come in our quarterly letter. We made some purchases on Christmas Eve but are still underweight equities. Cash has been king in 2018.

lighthouse

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.

Auto Pilot

We have been quite verbose in our weekly ramblings so we will attempt to be a bit more succinct. We are firmly in the grip of a bear market. The big question is how deep will this bear sink?

We saw support as being around 2300 on the S&P and we got support at 2350. We expect that level will now need to be tested again in the coming weeks to see if it holds. Our support level was 2550 -2575 as the lower end of our recent range. That is now resistance. Market is not oversold anymore so score one for the bears but the new year will bring in new pension money and January has a strong history of gains. Score one for the bulls. Institutional investors are underexposed to the market now and we could continue to march higher but the bigger risk is still to the downside. Traders and investors may be looking to rent this rally to try and capture some gains. We know we are having bit into this market below our 2425 target. New money could push market past 2550 but most will be looking to sell the rip because investors are in a negative mindset due to the recent selloff and will look to see if the 2350 low is to be tested again. If it fails, we see 2100 as the next stop.

Bear market rallies are sharp and steep and die in light volume. We had that in bunches on Wednesday as we rallied 1000 points on the day – the most ever. We look for sharp market rallies throughout the duration of this bear and as long as QT remains it will be Sell The Rip (STR).Markets typically move lower in three waves. We are in the midst of a bounce in wave #2 and see some opportunities.

We are keeping a close eye on the US Dollar.  If the dollar has peaked that could be a sign that markets think we have hit peak central bank moves here in the US. Powell and friends may be done hiking interest rates for a time. If that is the case, then we will see a rotation into areas that benefit from a falling US Dollar. The problem for stocks is the shrinking of the balance sheet is still on auto pilot. We believe it is the balance sheet that is the US stock market’s problem. When the Fed pauses the drawdown of the balance sheet markets will breathe a sigh of relief.

“I’ve never made a buy at a low that I didn’t just feel terrible and scared to death making it,”  Stanley Druckenmiller legendary investor

It’s okay to be scared. Even the best investors are. They just control their emotions and take advantage of the situation. Groceries are going on sale – make your list. There is more to come in our quarterly letter. We made some purchases on Christmas Eve but are still underweight equities. Cash has been king in 2018.

Happy New Year everyone! May 2019 bring you love, luck and prosperity.

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 .

lighthouse

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.

Grocery List

How extreme has this been?

At this rate the S&P 500 will hit 0 in early February. Long blog this week so here is the Executive Summary.

Keep your head about you. The S&P is not going to zero.

In our over 30 years in this business this is one of the most extreme selloffs we can recall. It brings to mind 1998, 2000 and 2008. We have warned that market structure (we are sure your eyes glazed over when we wrote it) was going to be a problem. Market structure has changed in the last decade and now relies on High Frequency Trading (HFT) to run the show. That is all well and good when markets go straight up – not so good when they go straight down.

So when you are getting upset that your account is getting smaller remember that a good deal of this selloff is non thinking machines. Machines, for the most part, are not very smart and HF Traders walk away from markets when they get too volatile and that leads to less liquidity. Less liquidity leads to traders hitting lower and lower bids which lead to margin calls forcing people to sell into ever decreasing bids. Reflexivity. A vicious spiral is born until it is broken which creates opportunities.


The big question here is has the Fed lost control of markets? The Fed is backing off raising rates. What they did not back away from was the balance sheet and Quantitative Tightening (QT) or the reduction of the balance sheet. That was the impulse for sending markets lower. The Fed has let us know that the point at which they will support the market is lower and perhaps much lower. We will have to see where the political pressure kicks in. When the Fed backs off QT then markets will stabilize.

“The balance sheet is on auto pilot, we don’t see balance sheet runoff as creating problems” Jay Powell FOMC Chair

That’s when everything really broke.

Piling on was hedge fund legend David Tepper who is known for having made the call that the Fed was telling you to buy stocks with its commentary back in 2010 and rode the rally higher. Last week Tepper said that the Fed Put is much lower. Perhaps as much as 400 S&P points lower. That would bring us to about 2000 on the S&P. As a reminder election night was around 2100. (The Fed Put is the concept that the Fed will step in to support stock prices if they sell off sharply much as they did in 1987, 1998, 2000 and 2008.)

We have to say that, while not unexpected, this selloff is one of the sharpest we have witnessed in our over 30 year career. This is right up there with the 1998 Thai Bhat Crisis, the 2000 Internet Bubble bursting and the GFC of 2008. How bad can this get? Is this 2008 all over again? No. In early 2007 I told my wife that we were moving to Atlanta. As you know no husband tells his wife anything. That alone should tell you how strongly I felt about the coming crisis. It’s funny because she retold this story to the kids the other day and I had forgotten the exchange. It went as follows. I told my wife we needed to move because this financial crisis was going to be really bad. She asked, “How bad”? My response – Biblical.

This selloff while rapid is not biblical. It does not have the hallmarks of the real estate crisis. Banks in the US are much better capitalized and are not directly threatened by this crisis. That alone makes any crisis here in 2019 much better than 2008. Currently, we don’t see the worldwide credit system at risk. In 2007 we thought that it was possible that we could see bread lines and a lack of food in stores. In 2019 that is simply not the case. What we have right now are some overvalued assets and poor central bank policy. There are some stretched valuations in high yield credit and leveraged loans that may become a liquidity problem but we think the risk of contagion is limited.  In short we don’t see the problems of 2008 but we do see the opportunity. If you can keep you head about you while all others are losing theirs…

The FedEx news was probably the most disturbing last week. FedEx slashed its outlook three months after raising it suggesting a global slowdown that is approaching posthaste. The Everything Bubble is popping. The worst spots may be leveraged loans and high yield debt. Opportunities may depend greatly on the US dollar and where to place your bets. We see the US Dollar having the potential to weaken here. We see signs but are not quite convinced. If it weakens we will look to Europe and Emerging markets and gold for gains.

As for support and resistance levels in the market this is what we had to say last week.

The break below 2625 means that markets will need to test the early 2018 lows and broader range lower limit of 2550. We think that Wall Street may not have studied for that test and a breakdown to 2425 is in order. Perhaps, at 2425, we could get the capitulation spike we have been looking for.

We closed the week at 2416 on the S&P. Unfortunately, we were right. Blind squirrels. Let’s see if we can stay on a roll. Markets are extremely oversold and will look to rebound. However, the failure of the Santa Claus Rally to arrive is one more arrow in the bears quiver. Next support is 2300 on the S&P. However, we see a move higher more likely back up towards 2525. Our ultimate destination in this bear market is election night November 2016. That would bring us back to the 2100 level on the S&P and down 28% from the highs in October. We are already more than half way there.

Remember, bear market rallies are sharp and steep and die in light volume. You can dip the toes in here but don’t chase. Rent don’t buy. We look for sharp bear market rallies into January but as long as QT remains it will be Sell The Rip (STR).Markets typically move lower in three waves. We are in the midst of #2. Thing is, the market has moved so far and so fast that wave #3 could be minimal. Life moves fast sometimes. Computers are still in charge and most humans will wait things out until 2019.

“I’ve never made a buy at a low that I didn’t just feel terrible and scared to death making it,”  Stanley Druckenmiller legendary investor

It’s okay to be scared. Even the best investors are. They just control their emotions and take advantage of the situation. Groceries are going on sale – make your list.

Merry Christmas and Happy Holidays to everyone!

lighthouse

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.

Get Paid and Wait Out the Storm

This market has been volatile to say the least and the holiday parties have been a long line of people asking me about the idea of “getting out” of the market. We wrote this to a client this week about recent volatility and we thought we would share it with you.

One other important concept to understand when it comes to successful investing is time and its impact on a portfolio. Investing for retirement means staying invested. We cannot afford to sit on the sidelines and wait for the investing climate that we want -we have to deal with the one we have. We cannot afford to lose out to inflation so we need our assets to provide cash flow and to grow – and to do that we have to take on risk. Our retirement income is dependent on being invested. What we seek is the income that our assets throw off, like dividends from companies like Philip Morris or Coca Cola. Those dividends and our interest from those investments give us an income to spend much like rent from a building. We still have to own the building to get the rent otherwise we are just spending our cash and being in a cash burn situation is never healthy. The advantage (disadvantage) of stocks and bonds (temptation to time the market) is that they are liquid. What we can do with stocks is roll up or roll down our risk exposure according to where we are in the market cycle. If stocks are expensive we roll down our exposure and if markets are cheap we take on more exposure but we never get 100% in stocks or 100% out. I once had a client say to me that he likes to be 50% in stocks and 50% in bonds because that way no matter what happens in the market that day he is happy.  

We currently have a defensive posture and are currently substantially underweight equities for all of our clients. That gives us more dry powder to use as market prices get cheaper. Like buying groceries at Shop Rite if Filet Mignon is on sale we want to have the money to buy two. Keep in mind the realization that if stocks were to sell off more that would actually decrease the risk of owning them and increase our likely returns. 

Ned Davis Research, whom we highly respect, was out with a research note this week which stated that they believe that the market will be down 20-25% over the next 7 months but this will be a non recessionary bear market ending in early Q2 2019. We have to agree with their assessment for now as the economy stills seems on track and we suspect that the inversion of the yield curve, which is signaling recession, is technical in its nature and a recession is not on the horizon. A non recessionary bear typically lasts 7 months and down 20-25% seems reasonable. We are already down 10% from the highs.  2200 on the S&P 500 is down 25% from market highs and is the launching point from the 2016 elections. That may be where we are headed.

The old Wall Street saw is that a bear will come to Broad and Wall should Santa Claus fail to call. A weak December has Wall Street shooting first and asking questions later. We have been consistent in saying that we are stuck a large range between 2550-2950 on the S&P 500. We have also demonstrated a mini range of 2625-2825. On Friday we closed at 2600. The break below 2625 means that markets will need to test the early 2018 lows and broader range lower limit of 2550. We think that Wall Street may not have studied for that test and a breakdown to 2425 is in order. Perhaps, at 2425, we could get the capitulation spike we have been looking for. Russell 2000 and mid caps seems to be leading the way with financials now a contributor. The market will not rally without the support of the financials. Keep an eye on JP Morgan  which is THE financial stock.

This is the Everything Bubble. Some are looking for it to pop. We see it as more of a deflating. The excesses of 2000 or 2007 are just not there and the economy seems to be stable. This deflating could last some time but we don’t see the radical repricing of 2007 on the horizon. Maybe this is worse in your opinion as it may take some time before we begin to head higher again. We like value here and getting paid while we wait for bargains. Cash is yielding 2.4% and there are quality companies yielding 5% out there. Get paid and wait out the storm.

lighthouse

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.

Where is Santa?

Markets have grown so jittery that they seem devoid of any connection to reality. In NYSE trading floor lexicon the current market action is known as getting “whipsawed”. Markets move higher and you buy. After you buy markets mover lower and you sell. Rinse. Repeat. Very frustrating and a big money loser. What is going on? Markets are being driven by mathematical computer programs. Those programs get investment funds long or short depending on levels in the market or headlines in the newsfeed. Those headlines and lines on a chart are directing huge amounts of investing capital and they are getting burned. Those quant funds have now turned short. Will they get burned again and markets head higher where they cover and get long or will markets finally break down? Small cap and mid cap stocks look to be breaking down. It’s going be an interesting week.

This is what we had to say last week and the game remains the same.

Don’t get caught up in the day to day and the twitterverse. The near term is dictated by jumpy traders and quants. The real longer trend and cycle is determined by monetary policy and the Fed and that has not changed. Let the traders chase this market. We are still stuck in the range between 2550-2950 on the S&P 500 and anything else is just noise.

These are not the types of days that you see in bull markets. These are bear market days. The volatility is brought by investors reaching for liquidity on the down moves and seeking long exposure and covering shorts as they chase the market higher. This week was really one big short covering rally. Short covers tend to be fast and sharp and die off quickly. It’s like throwing kerosene on a fire.

The sharp rallies and subsequent selloffs have our attention especially at this time of the year. December is historically a strong month. When seasonality behaves we ignore it. When it goes against its historical norm it gets our attention. The old Wall Street saw is that a bear will come to Broad and Wall should Santa Claus fail to call. A weak December may have Wall Street shooting first and asking questions later.

This is the Everything Bubble. We are seeing some extremes that happen very rarely. In 2017 we saw 90% of investable assets higher and now, in 2018, we see 90% of assets negative for the year.  That signals “The Everything Bubble”. No single asset is in a bubble (with the possible exception of negative yielding government debt and leveraged loans.) We don’t have the excesses of prior periods like the Nifty Fifty in 1960’s or Internet stocks in 2000 or housing in 2007. What we have is excess across the board. It’s like a stealth bubble. Everything is overpriced and the air is being let out of the balloon. Valuations are coming back into line. There is a tendency of cycles to over correct. The pendulum swings back past the mean into undervalued territory. In this scenario prices may not come down as much as in 2008 but across asset classes they will come down. While stocks have been slightly over valued we think they will get to slightly undervalued. The Federal Reserve may have something to do with that as they stop tightening and could, in fact, begin to ease sometime in the next 18 months.

Mini range from the last month is 2625 – 2825 on the S&P 500. On Tuesday we hit 2800 on the upside and by Friday we had touched 2625 on the downside. Close enough for government work. Russell 2000 and Mid caps look poised to break down through the lower end of their range. IWM (Russell 2000 ETF) looks ready to punch down to 134 from its current 144. That would be down another 7% and put it down 22% from its high in September. Bull markets tend to cycle up for 7 years and bears cycle down for 18 months. Keep an eye on JP Morgan. It is one of THE Generals in the market and must hold support here. A breakdown for the big bank would give support to the bears. Longer term, I think we could revisit the lows of election night. Would that be irony or symmetry?

We have a suspicion that the inversion of the yield curve which sent markets falling could be technical in nature. We don’t see a recession on the horizon just yet. If markets read this wrong and overreact it could be a tremendous opportunity.

A bear will come to Broad and Wall should Santa fail to call. Why do we just get out of the market? We don’t know what the market will do. We see where we are in the cycle and are more aggressive or defense depending on where we stand in the cycle. We can’t predict day to day moves but if we get the cycles right and align ourselves properly we will make money over the long term. We feel that we have been high in the cycle and have taken less risk. No guarantees. Remember, the main driver here is central bank liquidity. Right now they are draining. They could turn on a dime and stop draining or even add. We don’t know but we can prepare. We have cut risk in 2018 and right now that feels pretty good.

lighthouse

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.

Still Believe in Santa?

Jay Powell from the FOMC made the biggest headlines last week as he walked back hawkish comments from October 3rd that started the stock downdraft. We thought he might. Here is what we said the week prior.

Fed officials may try to walk back hawkish comments and markets may rally on those comments but as long as the flow is to decrease the balance sheet asset prices will struggle.

Blind Squirrels have to eat too and sometimes we are lucky enough to find a nut. Markets rallied on his seemingly dovish comments as shorts ran for cover and markets rallied. We don’t see his comments as dovish though. He said almost exactly what he said in October but he said it a bit differently. The game plan is still to keep tightening while raising rates and taking down the balance sheet. That flow will keep markets on the defensive.

This week is all about the results of the G20. The market stands to announce its verdict this morning with early line being up 400 points on the Dow Jones. That twitter account is paying dividends. Don’t get caught up in the day to day and the twitterverse. The near term is dictated by jumpy traders and quants. The real longer trend and cycle is determined by monetary policy and the Fed and that has not changed. Let the traders chase this market. We are still stuck in the range between 2550-2950 on the S&P 500 and anything else is just noise.

2019 is still going to be a tough year and the problems may stem from corporate credit. Fear is growing in this very important sector of investing. GE and PCG have their problems but the decline in the price of oil could bring issues as well if oil companies begin to struggle to pay back their debts. There is a huge amount of debt rolling over in 2019 into higher yielding debt. Margin pressure is going to increase for US corporations and perhaps even solvency for some.

The Federal Reserve issued a cautionary note Wednesday about risks to financial stability, saying trade tensions, geopolitical uncertainty and a buildup in corporate debt among firms with weak balance sheets pose strong threats.

The S&P 500 lost 3.5% during the usually slumber Thanksgiving week. This past week the S&P 500 made a complete U Turn with a 4.8% rally. This was the best week for the S&P and the NASDAQ since 2011. These are not the types of days that you see in bull markets. These are bear market days. The volatility is brought by investors reaching for liquidity on the down moves and seeking long exposure and covering shorts as they chase the market higher. This week was really one big short covering rally. Short covers tend to be fast and sharp and die off quickly. It’s like throwing kerosene on a fire.

Mini range from the last month is 2625 – 2825 on the S&P 500. Investment managers are going to try and keep this rally going into the end of the year to make their numbers look good. Some still believe in Santa Claus. There are also esoteric concerns about liquidity and bank reserves at the end of the year which could exacerbate things.

lighthouse

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.

Shrinkage

 

The S&P 500 lost 3.5% on the week. (So much for the bulls having the ball.) During shortened holiday weeks the bulls tend to have the upper hand. We pay attention to seasonality issues a bunch but the signals are strongest when the seasonality patterns do not hold. A nasty 3.5% drop when the bulls should be able to walk it over the goal line is a signal that there is something rotten in Denmark. We see the possibility of contagion on the horizon. What we have seen in 2018 is a rolling bear market. According to Deutsche Bank 90% of major world assets are down in value in 2018. Not exactly a banner year. The bear has rolled from one asset class to another with the S&P 500 being the last to fall.

We are starting to see pressure in the debt market which tells us that the fear is real and investors are de-risking – and fast. We have a close eye on the debt markets as US corporations have borrowed hand over fist to buy back stock and now those low interest rates are gone. 2019 is faced with a fading fiscal stimulus (from Trump tax cuts), slowing demand from abroad (trade wars), a declining Fed balance sheet and higher interest rates in the US along with the possibility of slowing corporate buy backs. We think, by far, the most dangerous threat to asset prices is the declining Fed balance sheet. All else is basically noise. Fed officials may try to walk back hawkish comments and markets may rally on those comments but as long as the flow is to decrease the balance sheet asset prices will struggle.

Stan Druckenmiller is a legend in the investing world. He is a multi billionaire and in over thirty years of managing money he never had a down year. He averaged 30% a year! Quite simply one of the best who ever played the game. He are two snippets from an interview he recently did with Real Vision.

Everything for me has never been about earnings, has never been about politics, it’s always about liquidity. 

They’re all (Japanese Central Bank, ECB, Fed) going in the same direction which is why I made the (short to market) bet in June and July…It is going to be the shrinkage of liquidity that triggers this thing.  And frankly it has already triggered this in emerging markets.  And that is kind of where it always starts.  What I haven’t seen yet, and where I think we should see it before we see it in the equity markets, and God knows, talk about a crazy priced market it’s the credit market… and it’s amazing… probably since the 1880s-1890s, this is the most disruptive economic market in history, there are hardly any bankruptcies.  So that Warren Buffett line about swimming naked when the tide goes out?  There are probably so many zombies (companies) swimming out there and there is going to be some level of liquidity that triggers it… who knows, it might start with Tesla. – Stanley Druckenmiller Real Vision interview 11/2018

We think it starts with GE. It’s all about liquidity. GE does not have the liquidity to get past its rough spots as they have gotten shut out of commercial paper markets. They are now drawing down their credit lines. Pacific Electric and Gas is drawing down its reserve lines with banks to pay for the wildfires in California. Illiquidity begets illiquidity. We have been awash in liquidity for ten years. Businesses have survived that should not have. Zombie companies. The walking dead. The central bankers are taking liquidity away. We will see stress in high yield and corporate debt market first. We will find some who are not prepared and corporate buybacks will be a swift victim.

We see the Fed capitulating. The market just cannot handle the tightening and the drawdown of liquidity. The Fed will make a show of it to look like they are not bowing to Trump but they know the market is under stress. At the end of the day the Fed does not mind if the market goes down it just minds if the market goes down too fast. The Fed is going to blink. The question is at what level in the market? What happens next? Will we see inflation rise? Will stocks bounce? How high? Our guess is that the Fed will blink sooner rather than later but that may not stop the market from falling.

Be hyper vigilant. These markets can change on a dime. We expect Fed officials to be out and about this week trying to talk back the hawkish tone set from Powell on October 3rd. Traders handbook says we should start to see a Santa Claus Rally. Will Trump deliver one next Monday after the G20 summit? We would guess that he will try.

For a year now we have warned that the 2666 level on the S&P 500 would be a fulcrum and that it would take 18-24 months to surmount this area on the charts. It has been 12 months and counting. The market closed Friday at 2632 after rising as high as 2940 last month.

Signposts like this along the way are good spots for investors to take a respite and reflect on how far we have come and whether the trend should continue. 2018 may be a Year of Reflection.

We also noted that Bitcoin would be a canary in the coal mine for markets.

Keep an eye on Bitcoin. The crypto currency market seems to be shaping up as a temperature gauge for risk. Bitcoin just made a lower high and there seems to be pressure in the space. As goes bitcoin so goes the market? It is trading at about $8300 as we write. It is very important that the support at $6700 remain steady otherwise bitcoin could see a $2000 fall quite quickly.Blog May 2018 (Bitcoin closed last week at $4200)

Well, here we are. Bitcoin broke support and fell $2000- very quickly. Speculators are getting out. Liquidity is drying up. We have seen it across all asset classes. It’s just time for stocks. In our April Letter we warned that you should not have more than 50% in stocks.

We remind you of these to show you the pattern. Markets were very speculative and had gotten ahead of themselves. 2018 was a Year of Reflection – A time to pause and see if prices reflected reality. The market is very oversold short term but long term markets were VERY over bought and valuations had gotten unreasonable. Just look at bitcoin. 18-24 months seems about right to see if investors can digest this level in the market. We suspect they cannot if the Fed continues to drain liquidity. It’s always about liquidity.

We are due for a bounce but last week was not a real confidence builder. The 2525-2575 level on the S&P, if tested this week, needs to hold for the bulls. If the bulls fail the test a trapdoor could open. The end of the year gets tricky as investment managers will try to make things look good and come out with a positive year. There are also esoteric concerns about liquidity and bank reserves at the end of the year which could exacerbate things. The risk is asymmetric to the downside with a selloff being of less likelihood but of greater magnitude.

lighthouse

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.

Headed for The Junk Pile

We said last week that the latest FOMC statement and inflation numbers had the Feds firmly on track to continue raising rates. Well, the thrill a minute rollercoaster ride continues as Jay Powell was out making statements this week that are leading us to think that he is getting a bit gun shy. Perhaps, GE’s latest stumble might have something to do with that or maybe it is the 20% drop in oil. Markets are now pricing in a 65% chance of a rate hike next month that looked like a sure thing a month ago.

We seem to be in the midst of a rolling bear market as one market after another sees things blowing up. Most investing assets around the world are in the red for 2018. Even bitcoin took a tumble this week. That rolling bear market hit the US corporate debt market this week as GE debt was slammed. A real problem could be brewing in corporate debt land as the massive GE debt seems to be headed for a junk rating. Put GE alongside Pacific Gas and Electric, who is struggling to deal with the ramifications of the California fires, and we have two large debtors headed for the junk pile. Low rates have gotten US corporations hooked on debt. Shares of those corporations could be re-priced as they begin to rollover that debt into higher interest rate debt. Large numbers of major US corporations could be headed for junk status and that could overwhelm the debt market. The risk of contagion is real. How interconnected are things and assets? What could tip the scales? We don’t know but we suspect that the risks are rising. Buybacks from corporations may be the next victim of rising rates. Corporations have been some of the biggest buyers of stock.

A hold on rates hikes might take some of the pressure off of stocks. While we noted last year that Trump’s tax cuts were giving the Fed the cover it needed to raise rates that time may be running out. Oil’s slide over the last month is not engineering confidence in the global economy and neither is GE. Good thing they raised rates when they did.

We have noted that are stuck in a very large trading range and that range stretches from 2550 – 2880 on the S&P 500. The S&P closed on Friday at 2736.  The market is in no man’s land. We suspect that the Holiday week will slow things down. Markets will be thin and all eyes will be on the Donald’s Twitter account. S&P 500 is still below its 200 DMA but markets are slightly oversold. We give the edge to the bulls with the holiday week on hand. Holiday weeks tend edge higher. Enjoy the turkey but leave room for pie.

 

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 .

lighthouse

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.

Easy Money

Clients are asking what happens next and what do we do about it? Here are some excerpts from an interview Howard Marks did last month on his book tour. I believe it explains the process and what to do next very well. 

What can investors do to make better investment decisions?

you have to have a sense for where the market stands in its cycle. That’s what’s determines the odds. When the market is attractively positioned, low in its cycle, then the expected return is above average, and you want to play offense. In contrast to that, when the market is unattractively positioned, high in its cycle, then the expected return is below average, and you want to play defense.

What’s the temperature of the market right now?

I believe we are high in the cycle. For instance, P/E ratios on stocks are above average. They are not as crazy as they were in 2000, but they are above average. Also, interest rates on bonds are below average, yield spreads are at historic lows and credit conditions are weak in terms of looser covenants. What’s more, we are in the tenth year of an economic recovery and there has never been a recovery of more than ten years. That doesn’t mean this recovery can’t continue, and frankly, it feels like this one will go more than ten years.

What does this mean for investors?

The longer the cycle has gone up, the closer we probably are to the point when it turns down. We’re in the tenth year of a bull market and the S&P 500 has quadrupled from the low of March 2009. That’s why I would argue that the easy money has been made. The market environment is not as attractive as it was ten years or five years ago, and that means the chances of extreme positive performance are low. So given where we are in the cycle and what has happened, you can’t argue that we should take on more risk today than we did five years ago.

So I don’t think there is going to be some disastrous crash. But the experience just will not be a good one.

In my view, market conditions make this a time for caution, a period more for defense than offense. More defense means more bonds than stocks, high quality stocks rather than low, big companies rather than small ones, value strategies rather than growth strategies, stable companies rather than cyclicals, developed world rather than emerging markets.

There are ways to insulate your portfolio rather than jumping out of the market. We don’t know when the economy or the market will sputter but we know that valuations have become stretched and we are working on one of the longest expansions on record. The easy money has been made. If the market keeps going up, we are still invested and making money – just a bit more defensively. If it goes down, by holding US large cap value with a healthy dose of bonds, we will lose less and be in a better position to take advantage of any drop in prices.

Oil is now down 20% for the month! That is a huge move. Oil started lower on the same day that Powell made his comments back on October 3rd. Stocks and oil prices tend to move together. We suspect that the headwinds to growth and the stock market are growing.

As we said last week, there had been hope that Powell and friends would back off their plan for higher rates but the wage gains and now the latest FOMC statement make it look like they are committed to higher rates for now. The end result is that we expect to see higher rates for longer and that will put pressure on stocks.

We have noted that are stuck in a very large trading range and that range stretches from 2550 – 2880 on the S&P 500. The S&P closed on Friday at 2781.  We have retraced half of the down move from October. As the selloff progressed it was obvious that the market had gotten over sold and was due for a bounce but the question was how high would it bounce? Investors always look for a bounce which regains half of the move down. Investors also look to the 200 DMA as the dividing line between a bull market and bear market. We have retraced half the down move. We are also just above the 200 DMA which all of the computers will be keyed on. Investors will now be watching these levels very closely to see who wins out – the bear or the bulls. It looks to be an important week.

lighthouse

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.