Housing On Fire – Again

The housing market is absolutely on fire of late. We are hearing tales of bidding wars again. What short memories we have. We had an interesting conversation with some in the core housing supply chains. Their tales are more of woes surrounding supply rationing and trucker shortages. Inflation here we come. The real story is about interest rates and their effect on markets at home and abroad. We have long surmised that it was absurdly low interest rates that were holding back the economy. Our thought process is that with 0% interest rates there is no rush to go out and buy that house, that car or build that factory. Rates are low and will be for some time. Well, now the rush is on to make moves before interest rates run even higher and inflation is entering from stage left. The ironic part is that if the Federal Reserve raises rates further it may push the economy further into overdrive.

If one oversteps the bounds of moderation, the greatest pleasures cease to please. – Epictetus

For a more in depth analysis of where rates may be headed check out this blog post from our friends over at Global Macro Monitor.

As I said, it is all about interest rates. Here is what David Tepper, hedge fund legend and now owner of the Carolina Panthers (who bought the team for a mere $2.2 billion) had to say on about interest rates and the stock market earlier this month.

… a lot of it has to do with interest rates. We’re right on the cusp of breaking out on interest rates at this level around 3%. (the 10 Year closed the week at 3.06%)…But a lot of people don’t think they’re going to break higher – most people are only saying they’re only going to 3.25%. And I think if they only go to 3.25% for the rest of the year then stocks might be up. But too many people are saying that. And when too many people are saying one thing that’s when I start to get worried. So if we break above that, then stocks might have a problem.- David Tepper Appaloosa Management

Now we must deal with the unintended consequences of zero percent interest rates and the unwinding of QE. Because interest rates are headed higher so is the US Dollar. That is having a chilling effect on emerging markets. The iShares Emerging Market ETF is now trading below its 200 DMA and looks like it may be headed for a fall. I remember 1997 and the Asian Crisis very clearly. It was and still is the only time that US stock markets closed early due to trading curbs and the Dow Jones’ 550 point loss that day. We were on the floor that day and it was particularly eerie. The Asian Financial Crisis began in Thailand with the collapse of the Thai Baht and its effects were felt around the globe. Keep an eye on emerging markets like Argentina, Brazil, Turkey and South Africa. Turkey may merit extra attention as inflation in that country just hit 11% and its dictatorial leader is demanding rate cuts!? The economic textbooks would tell you to do the opposite.

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. The S&P closed the week at 2713 or about 50 points above our fulcrum of 2666. It has been 5 full months since we first hit 2666. Remember, we thought that we could spend 9-18 months here. The S&P keeps swinging back and forth between the 100 day moving average and the 200 day. Those lines are sloping upward and so is the market. The bulls have some work to do.

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

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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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Full Swing

One of the most positively anticipated earnings seasons in years is in full swing and most of the news has gone according to plan. As earnings seasons go this has been very good Corporate America. Here is the problem. Markets haven’t budged. That in essence shows how the market is a discount mechanism. Great earnings were widely expected and were priced in months ago. Inflation is the new worry and the statistics that we get next week will most likely show inflation rising above the 2% goal of the Federal Reserve. Next week could signal more rate hikes on the way and a higher 10 Yr Treasury. That could prove negative for stocks.

It seems that we are not the only ones signaling caution as we are seeing that in the positioning of public investors/institutions and sentiment numbers. The key takeaway here is that as investors become more cautious in their positioning it makes it more likely that when we break out of our current range the upside will be exaggerated and the downside could be more limited. Conservative positioning will leave us all with more dry powder and buying power as a group. We are not saying which way it will break but we are trying to decipher which way to lean.

We continue to invest for inflation and anticipate stocks will continue to struggle with their current range. We have low duration with our bond portfolio and continue to add commodities to our asset allocation. The commodity sector is one of the best performing asset classes in 2018. Another focus is our cash and generating for the first time in a decade returns there. Not sexy. Just smart. The market continues to struggle and is stuck in the range between 2550-2700 on the S&P 500. The longer it stays in the range the better it is for the bulls and the harder the breakout will be when it comes. We see the market breaking to 2850 and new highs or a trapdoor opening with a swift move to 2400 or lower. The market still struggles with 2666 as we closed the week at 2669. We are stuck, for now, in a range between the 100 Day Moving Average (DMA) and the 200 DMA and that range is growing tighter each week. Something will have to give. Keep an eye on the door. When these ranges break things will change rapidly – but for now we wait.

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 .

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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.

Tension Builds

We hope that you enjoyed reading our quarterly letter last week. We got some great feedback from people we admire in the industry and we hope that you found it useful as well. If you haven’t read it yet we would encourage you to. Here is the link to our quarterly letter.

2018 is going to be a huge year for corporate buybacks with an expected $800 billion in buybacks but the rest of April may be a bit sparse. Buybacks have, at times, carried this market. The rest of April could struggle with corporations in blackout periods due to earnings. It is interesting to note that Goldman Sachs suspended their buyback for the rest of this quarter. They are investing the money back into their business. Hmmm…

We can now say that the gap has been filled at 2700 in the S&P 500 but it also seems to be proving to be resistance for the time being. We watch gaps because gaps show us where the emotion lies in the market. A break in emotion whether good or bad creates gaps in charts. A healthy dose of good news and we rocket higher creating a gap. Bad news and we see a break lower. We have seen two major breaks in 2018 and they are both in the bears favor. When we get back to those gaps it is natural resistance (support) for markets.

By way of Arthur Cashin comes a note from his friend Jim Brown at Option Investor. It seems that Brown see that buybacks are escalating while the public steps back from the market.

On the public, Jim wrote: Bank of America said equity ownership in individual accounts has declined to 29% compared to the 41% in January. The 29% is an 18 month low. That can be seen as positive from a contrarian perspective. If the market continues higher, individual investors could begin scrambling to add equities to their portfolio. Since the average individual investor functions in a herd mentality, the surge of new buying a couple weeks from now could be at a market top. I wrote back in January that I expected a market decline in late April, early May once all the major earnings had been released. I was not expecting a February decline but my outlook for May is still cautious.

We have been calling for the market to struggle for 9-18 months since we hit 2666 and we continue to trade within 130 points of that number.  We are stuck, for now, in a range between the 100 Day Moving Average (DMA) and the 200 DMA. The 200 DMA is the number most watched by the momentum crowd. If we break below the 200 DMA there are very large funds that will go from 100% long to 100% short. The range that we are building also builds tension. When that tension is released the market will move in conjunction with how much pressure has built. Gold and the 10 Yr Treasury have been stuck in a range for a year. Keep an eye on the door. When these ranges break out things will change rapidly – but for now we wait.

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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.

Blackthorn Quarterly Letter April 2018

 Roaring

For some time we have been warning about a melt up in the markets. The stage had been set for asset prices to roar higher. Well, 2018 came roaring in like a lion with, what appears to be, the late stages of a market melt up.  At its zenith the S&P 500 was up almost 7.5% for the month! The incredible start to 2018 was clearly unsustainable and it was obvious that some sort of correction in 2018 was likely. February was clearly much different than January, in that, the S&P 500 that we had come to enjoy over the last 13 months had now turned south.  The volatility quake of February was just what the market needed to wake it from its relentless sleep walk higher. While we have enjoyed the last 9 quarters of positive pricing it was just a matter of time before markets reverted closer to their historical glide path

While we have made note in our letters of historically elevated valuation metrics we see further anecdotal evidence of that elevated pricing in legendary investor Warren Buffett’s latest Annual Letter. Buffett is well known to be constantly on the search for deals in the marketplace. His job is to allocate capital and he does that in buying stocks in companies or preferably entire companies as he adds to his portfolio. One of the main challenges in running Berkshire Hathaway is consistently putting newly acquired capital to work as it is a capital generating machine. In his latest annual address he notes that prices for assets are challenging. He described that finding a deal ata sensible purchase price” has become a challenge”.Berkshire Hathaway Annual Letter 2/26/2018

Why are prices so elevated? As you know from our writings, it is our opinion that elevated prices are directly related to central bank policy around the globe. A policy that, if even spoken of in polite circles a decade ago, would have gotten you laughed out of a room of economists. This past decade has been filled with rising asset prices due to the fire hose of central bank policy. Historically low interest rates, growing balance sheets, and low volatility all combined in excel spreadsheets to justify higher valuations for assets.

This never before attempted policy is now being seen by central bankers as being long in the tooth. Central bankers are now enacting tighter policy if only to have “bullets in the gun”. There is always another crisis and policymakers know they will be expected to respond. Policy maker’s response to the next crisis would be limited in scope if interest rates are along the zero bound and they hold an inordinately large balance sheet. Federal Reserve officials have been more overt in their recent communications that they are concerned about having the capacity to respond to a crisis in the future.

“Long-term risks include reduced capacity of both fiscal and monetary policy to act against downturns. Eric Rosengren Boston Fed President speech 4/13/18

What Changed?

What has changed is the tax cut. The tax plan really started in the middle of September and that’s when you saw the bond market reacting. …At that point, the market had shifted from its disinflationary mindset to a moderate inflation mindset. And that’s the repricing that has been taking place. Jeff  Sherman CIO Doubleline Funds

Central bankers are right to be concerned as the market perceives a change in mindset. Change can create volatility. Volatility can create fear. Fear can manifest itself in a lack of faith in the Fed to maintain stability. Instability creates lower asset prices.  Investors are seeing inflation on the horizon for the first time in a decade and that necessitates a rotation into a different investment game plan. Currently, investors are walking a tightrope between investing for inflation and investing for deflation. A deflationary game plan includes investing in longer term bonds and buying stocks when central bankers inject capital. An inflationary game plan includes commodities, low duration bonds and equities when inflation is controlled. We are walking a tightrope of investing options as the two outcomes are polar opposites.

“We have to deal with the possibility that at one point the Fed and other central banks may have to take more drastic action than they currently anticipate” and rates “may go higher and faster than people expect.” – JP Morgan CEO Jamie Dimon Annual Letter 2018

Ironically, the next crisis will probably be caused by the central banker’s actions (or inactions) as they try to pare down their balance sheets and normalize interest rates.

Until Something Breaks

And if you respect financial history, what the Fed has always done is hike until something breaks. We definitely had the debt build up. Looking at debt to GDP, people talk a lot about a bond bubble. But it’s not in the treasury market and it’s not in the housing market. It’s in Corporate America – Jeff Sherman CIO Doubleline Funds

What could break? We surmise that it may be the corporate debt market. Currently the 2 year US Treasury is the highest it has been since 2008 and if interest rates continue to rise there is concern that corporations may not be able to refinance debt that is coming due in the next two years. The artificially low interest rate regime that has prevailed since the GFC has given rise to zombie companies. Zombie companies are corporations that would have otherwise, with normalized interest rates, not been able to refinance their debt and stay alive. Those companies may not be able to stay afloat with rising interest rates and with less access to capital. That could create a significant drag on the economy as they close their doors. An additional concern is the rising share of the US budget that is being outlaid to interest payments. If rates were to normalize then the US budget is in danger of becoming a slave to its interest payments. That is the cross for the Federal Reserve to bear. How much is tightening is too much? How much can they tighten before something breaks?

Asset prices, which have risen on the back of loose central bank policy, should now, theoretically, reverse given central bankers current goal of tightening monetary policy. Central bankers are walking a fine line when trying to reverse their experimental policy. The trick here is for central bankers strike a balance where they are able to rein in policy without collapsing asset prices.

One of the biggest keys to success in this environment will be how the Fed responds to the markets’ response to any change in policy. If the market falls into a bear market a key driver will be how the Federal Reserve responds to any market correction. That response is likely to determine how long and how deep any correction might be. Our first clues may not come from the equity market as to markets overall response but from the bond market. Bond yields may be the risk temperature gauge for markets. Rising/falling bond yields or a continued flattening of the yield curve may portend equity market action.

“Spreads between corporate bonds and 10-yr Treasuries has fallen to relatively low levels, notes studies have showing investor confidence that generates low credit spreads often precedes subsequent economic reversals.” – Eric Rosengren Boston Fed President

The rising specter of inflation may have been the initial culprit of the recent sell off in February but that is normal for this late in the cycle. Pundits are saying “but the economy is doing so well”. The reason markets sell off when the economy is doing well is due to the central bank and its efforts to maintain a balance between prices and a strong economy. If the economy is doing well central banks will raise rates to slow the economy as inflation begins to rise. The reverse is true as well. If deflation arises and the economy is performing poorly central banks will lower rates to stir the economy and its concerns about inflation go on the back burner.

Then the acceleration of demand into capacity constraints and rise in prices and profits causes interest rates to rise and central banks to tighten monetary policy, which causes stock and other asset prices to fall because all assets are priced as the present value of their future cash flows and interest rates are the discount rate used to calculate present values. That is why it is not unusual to see strong economies accompanied by falling stock and other asset prices, which is curious to people who wonder why stocks go down when the economy is strong and don’t understand how this dynamic works. -Ray Dalio Bridgewater Associates

We continue to believe that central bank purchases will dictate asset pricing and while we can try and predict when asset flows will turn negative we cannot predict when markets will react to that reversal in flow. Buy the dip may have turned into sell the rip. The 3% level on the 10 year is the key. Equity markets continue to tumble whenever bond yields rise and bond yields fall whenever equity markets stumble. We are stuck in a loop. Markets may be stuck in neutral until central bankers either stop tightening or tighten too much.

 What’s Next

For one thing, I’m convinced the easy money has been made.  … the one thing we can say for sure is that the current prospects for making money in U.S. equities aren’t what they were half a dozen years ago.  And if that’s the case, isn’t it appropriate to take less risk in equities than one took six years ago? – Howard Marks Co-Chairman Oaktree Capital 1/23/2018

The lack of volatility in recent years has led to a one way market – up. So far in 2018 we have seen the return of volatility that has been missing from market advances in recent years. As we see a rise in the fear gauge we expect a repricing of assets and, with that, markets are going to be increasingly volatile and move in two ways- both up and down- rather than what we have seen over the last 9 quarters. While it may become more difficult to make money in this environment we feel that opportunities will present themselves to readjust asset allocations to our benefit. In the past 25 sessions, as we write, we have seen the Dow move triple digits in 21 of those sessions. While that may offer opportunities it also may indicate that something is not quite right under the surface. How do we position ourselves at the current time when it comes to equities? Here is some advice from Benjamin Graham, Warren Buffett’s mentor.

We can urge that in general the investor should not have more than one half in equities unless he has strong confidence in the soundness of his stock position and is sure that he could view a market decline of the 1969-70 type with equanimity. It is hard for us to see how strong confidence can be justified at the levels existing in early 1972. Thus, we would counsel against a greater than 50% apportionment to common stocks at this time. -Benjamin Graham The Intelligent Investor

 From Graham’s perspective he saw a massive run higher in the Dow Jones from 1942 -66 and, subsequently, saw markets struggle in 1969-70 period. The move lower from 1969-70 totaled a 35% loss in equities. That is the kind of loss Graham is talking about. Graham’s lack of confidence in 1972 was well founded as a massive bear market would take place from 1972-74.

We wholeheartedly agree with Graham as to strategy. We also think that Graham would agree with us on the market’s current position and the highly elevated valuations that we see today. We are not saying that a massive bear market is around the corner. What we are saying is that equities are at historical valuations. Is it not prudent to take less risk in equities than one took 6 years ago? The current markets may consolidate and then move higher still but we are not willing to bet the farm on that. We expect a long period of consolidation and a move higher or a shorter period of consolidation and a move lower. We must position accordingly.

Emotional Capital

We have spent a good deal of time lately talking to clients about emotional capital. When cycles reach a more mature stage it is prudent to sell some winners and build a cash (and emotional) cushion with which to buy future bargains. That way when market losses come you are keenly aware that you prepared for this moment and this money was set aside to buy assets at bargain prices. If you are holding too much in the way of assets when they begin to fall you will be tempted to start selling. It is then that you will be managing your money from an emotional point of view.

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First, widespread fear is your friend as an investor, because it serves up bargain purchases. Second, personal fear is your enemy. – Warren Buffett

As investors, our job is NOT making the case for why markets will go up. Making the case for why markets will rise is a pointless endeavor because we are already invested. If the markets rise, terrific. We all made money, and we are the better for it. However, that is not our job. Our job, is to analyze, understand, measure, and prepare for what will reduce the value of our invested capital. –Lance Roberts

 

 

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

 

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

 

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Terry@BlackthornAsset.com

 

 

 

 

Disclosure: According to SEC Custody Rule 206(4)-(a)(2), Blackthorn urges you to compare statements/reports initiated by your Blackthorn with the Account Statement from the custodian of your account for data consistency. To that end, if you find any discrepancy between these reports and the statement(s) that you received from your account’s custodian, please contact your Advisor or custodian. Also, please notify your Advisor promptly if you do not receive a statement(s) from your custodian on at least a quarterly basis.

Blackthorn is an investment adviser registered in the state of Georgia. Blackthorn is primarily engaged in providing discretionary investment advisory services for high net worth individuals.

All information provided herein is for informational purposes only and should not be deemed as a recommendation to buy or sell securities. All investments involve risk including the loss of principal. This transmission is confidential and may not be redistributed without the express written consent of Blackthorn Asset Management LLC and does not constitute an offer to sell or the solicitation of an offer to purchase any security or investment product. Any such offer or solicitation may only be made by means of delivery of an approved confidential offering memorandum.

FANG’s Lay an Egg

The attack on the FANG’s is the second attack of 2018. The first was the short volatility trade that blew up in February. Each attack has a lasting effect on the market. The short vol trade suppressed the price of volatility which helped elevate stock prices. The dismantling of this trade is still reverberating through markets. The next break down is what we call the shooting of the Generals. The leaders of the market have been producing an outsized portion of the gains and those leaders are now being questioned by the market. The move lower in the FANG’s has the market on its heels and investors are nervous. Where will the new market leadership come from? When will it arrive? This is a tough blow for stocks. New leadership cannot come quickly enough and large enough to steady the market. Tech is 25% of the S&P 500 with Apple, Amazon , Google, Microsoft and Facebook making up 14% of the S&P 500. You can see how weakness in just those five stocks will have an outsized negative effect on the S&P 500. The Generals of the market are the leaders. Those leaders, when shot, need to be replaced before the market loses confidence. The market is growing increasingly rudderless. There will be a third shoe to drop.

The FANG’s (Facebook, Amazon, Apple, NetFlix, Google)moved even lower this week as the bears took full control. They are oversold and due for a bounce as is the market. Unfortunately, the bounces that are coming are of the bear market variety. They are very large bounces on light volume. Bear market rallies rise sharply and die in low volume.

The longer the gaps stay unfilled at 2850 and 2700 the more they are validated. The 200 DMA is the key as the market has used it as support but the bulls just can’t get lift off especially as the FANG’s are taking such a pounding. April is, historically, the best month for the Dow. Unfortunately, that number dips in midterm election years. New money for the new month could help but if it doesn’t – watch out. We still anticipate a move to at least touch and test 2550. We do not think the street has studied for the test and may fail. But first, we should see some bounce to test 2700-2750 at the very least. If we don’t retest then that is another win for the bears.

A short one today as it is Easter Sunday. We will also have an abbreviated note next week as we tee up our quarterly letter.

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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.

Monday’s Blueprint for Markets

Here is our Blueprint for Monday and beyond. Since the election of Donald Trump we have been building an investing scenario that looked much like 1987. We were calling for a 1987 style melt up and then, a smack down.

A 30% run from the lows before Election Day, much like 1987, …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. (The S&P 500 was at 2360 as we wrote.) Witches’ Brew Blackthorn Quarterly Letter April 2017

We may have missed the top by 100 points on the S&P 500. Last month we backed off of the 1987 style melt down part of this scenario in light of everyone jumping on the 1987 bandwagon. We have begun to expect a more drawn out solution but you must be prepared for either in this environment.

This is what we had to say in our blog post Warning Shot Across the Bow published 2/4/18.

Our new scenario calls for a more drawn out selloff. First, we may see a drawdown in the magnitude of 5-15% followed by a retracement back to the old highs. From there (You Are Now Here) we should see a selloff of a larger magnitude leading to a bear market over the next 18-24 months. It’s not voodoo. Valuations show that historically we will see limited upside from these levels. Markets are high. Rates are rising. The yield curve is flattening. Markets tend to struggle in the second year of a Presidency as midterm elections approach. It’s not rocket science. It’s the study of psychology and history. We have seen the warning shot across the bow.  Buckle up. It’s going to be a bumpy ride. Watch the central bank balance sheets. If they stop tightening all bets are off.

As far back as October of 2017 we were warning about the 2666 level on the S&P 500 and a struggling market for 18-24 months.

We felt that the market would struggle for 18-24 months when it hit 2666 on the S&P 500. The market has spent time at each multiple of the 666 low in the S&P. 2664 is 4x the 666 level. You must remember we are dealing with algorithms written by humans. Levels like 666 and 2x, 3x and 4x are just levels in a computer program. Be careful of computers. They only do what they are told. As computer use has created a wondrous cycle of upward movement so we can have the vicious spiral downwards.

Market structure could exacerbate may any selloff. We have warned about market structure in the past and here is where you can do further reading from our blog posts – My Name is MarioParadox and Caution Flags.

The market is flawed in its design as its automated structure puts the momentum players, the market makers and algorithms in control. While it is pleasurable to see it go up every day it will be much quicker and painful when the market goes down in a one way fashion. For every action there is an equal and opposite reaction. Blog Post “My Name is Mario” 10/28/2017

We mentioned on Twitter on Thursday morning that gaps at 2850 and 2700 would lead technicians to project a measured move lower to 2550. That was 4% lower as we wrote. We realized that a move of that magnitude would take the S&P down to test the lows from February’s vol quake. What we didn’t realize was how quickly we would get to that number. For next week the old school playbook is for a rough Monday and a chance for the bulls to turn things around Tuesday afternoon. We have a feeling that Wall Street didn’t study for this test. Market is very oversold and due for a bounce. How it reacts to the prior low (2550) will tell us a lot.

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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.

The Ides of March

“Beware the Ides of March.” As we know from Plutarch, a Greek biographer, a seer had prophesied to Julius Caesar that harm would come to him by the Ides of March. He would, in fact, be assassinated on that day. Wall Street is a superstitious lot but it’s the bears that may feel they got assassinated last week. Some of the feedback that we received on our blog last week was that we were a touch bleak. We don’t feel that it is our job to talk about sunshine and roses. Our job is to be the cynic. Our job is to find the risk and avoid it or profit from it. We are not bleak on the market. We are just looking to manage risk and get the best risk return ratio for our clients. We are still heavily invested in stocks for clients but just underweight them as we feel that the risk reward here is turning against investors. In what is probably the best investing book ever written Benjamin Graham, of whom Warren Buffett is a disciple, outlines how to allocate your investment portfolio.

We can urge that in general the investor should not have more than one half in equities unless he has strong confidence in the soundness of his stock position and is sure that he could view a market decline of the 1969-70 type with equanimity. It is hard for us to see how strong confidence can be justified at the levels existing in early 1972. Thus, we would counsel against a greater than 50% apportionment to common stocks at this time. -Benjamin Graham The Intelligent Investor 

We wholeheartedly agree with Graham as to strategy but we also think that Graham would agree with us on the market’s current position and how to allocate in 2018. After seeing a massive run in the Dow Jones from 1942 -66 markets were struggling in 1969-70 period. The move lower from 1968-70 totaled a 35% loss in equities. That is the kind of loss Graham is talking about. Graham’s lack of confidence in 1972 was well founded as a massive bear market would take place from 1972-74. 

Markets tend to go higher over time and the majority of annual returns in stocks are positive. We don’t need to tell you that stocks are a very good investment over the long haul. Our job is to look at risk/return ratios and know when to back off. You wouldn’t bet on Secretariat to win if a $5 bet would return $1. The metrics on stock valuations are historically elevated right now and history tells us that equity returns from here could be subpar. There is nothing wrong with rebalancing, taking profits and taking down risk. We are not out of the market just underweight stocks. 50% in and 50% out. We can find a reason to be happy whatever Monday brings. The key to what Graham is saying is can you weather the storm? If you are overweight and you get a discount in prices you either cannot buy because you are already all in or will not buy because you lack the psychological and emotional will. You should never be all out and never all in. That way, when Mr. Market offers you a ridiculous price on a stock that you have always wanted to buy you are financially and emotionally ready to take advantage. Not gloom and doom. Just proper risk management.

The Ides of March were known in ancient Rome as a time to settle debts. It looks like the bulls settled one with the bears a week early. Last week we said that the line on the bull/bear game was a push. We thought that with the market a touch oversold the bulls had a slight advantage but that neither the bulls nor the bears really had the upper hand. Well, the bulls made it clear they are not ready to go away yet and shrugged off potential trade wars and another high profile resignation from the White House. The bulls had an outstanding week and let the bears know who is really in charge. The bulls now have the gap at 2850 on the S&P 500 clearly in their sights.

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.

The Risk to the Rally

The Risk to the Rally is the Rally itself. We came across a note from a research firm that we will not name. We highly respect the firm but the comment struck us like a thunderbolt. “Nothing can seemingly stop this market in 2018”. That is a very bold statement with 11 months to go in the year. A great start that has us running with the bulls but investors may be getting just a bit ahead of ourselves.

“With a 6.1 percent year to date gain and just three down days in the fifteen trading days of 2018, nothing can seemingly stop this market in 2018,” the firm’s analysts wrote Wednesday.

So far in 2018 we have rising bond yields, full employment, a Federal Reserve that is raising rates, trade friction, a falling US Dollar, tax reform and a runaway stock market. The punch line is that we might as well be talking about 1987. We wrote last year that the Trump Administration’s policies may give the FOMC the cover that they need to raise rates. The problem now is that Trump Administration policies could force the Fed to raise rates faster than they would like. A seemingly lower US Dollar policy, tax reform, trade wars and deregulation all could help foster that inflation the FOMC has been wishing for and force them to be more hawkish when it comes to monetary policy. At some point those rising yields will put pressure on risk assets.

“Obviously a weaker dollar is good for us as it relates to trade and opportunities,” Mnuchin told reporters in Davos. Mnuchin said recent declines in the value of the dollar against other currencies were “not a concern of ours at all.” – Steven Mnuchin US Treasury Secretary

From our good friends over at the Global Macro Monitor blog here is their thoughts on the latest developments out of Washington DC.

We have voiced our concern as we have noticed over the past few weeks the dollar weakening as interest rates are rising. A red flag.

Bad Timing 

The U.S. economy is humming at full capacity with inflation already on the cusp of moving higher. A weaker dollar is, effectively, a monetary easing and makes the Fed’s job that much harder at a time when financial conditions are incredibly loose.

The Administration also just announced the implementation of tariffs on solar panels and washing machines. LG Electronics has already announced they plan to raise prices on some of its models.  Retaliation by our trading partners seems likely.  Ergo inflationary pressures increase on the margin

https://macromon.wordpress.com/

The measured pace of the Federal Reserve is much like the measured pace of the Greenspan Fed in the mid 2000’s. The paradox then was that as the Fed kept raising rates at a measured pace the market kept roaring higher. Effectively, financial conditions got easier the more the Fed raised rates. That is the same paradox we have today. Financial conditions indicate easier conditions as the market heads higher with rising yields.

We feel that looser financial conditions are being exacerbated by the Fed’s frog in the pot. If the Fed continues to slowly boil the water asset prices will continue to trend higher, however, the downturn in markets, when it comes, will be worse. The Fed, at some point, should shock markets and raise rates 50 BP. Unfortunately, we do not feel that they will have the political will to hit markets with a 50 BP rate rise. That would certainly get markets attention. Otherwise, it may be up to inflation or possibly a trade war to get the market’s attention.

https://www.zerohedge.com/news/2018-01-24/us-financial-conditions-easiest-2000-despite-5-fed-rate-hikes

https://www.bis.org/publ/qtrpdf/r_qt1712a.htm

Howard Marks is out with his latest memo this week and it is well worth the read. He has a new book coming out in October that we are looking forward to reading on cycles. Here are some of the highlights of what he had to say on his Latest Thinking this week. Go on to read the entire memo. It is worth the time.

The bottom line of the above is that some people are excited about the fundamentals, and others are wary of asset prices.  Both positions have merit, but as is often the case, the hard part is figuring out which one to weight more heavily.

 Closer to the bullish end of the spectrum or the bearish end?  Or balancing the two equally?  My answer today, as readers know, is that I would favor the defensive or cautious part of the spectrum.  In my view, the macro uncertainties, high valuations and risky investor behavior rule out aggressiveness and render defensiveness more sensible.

For one thing, I’m convinced the easy money has been made…., isn’t it appropriate to take less risk in equities than one took six years ago?

Prospective returns are well below normal for virtually every asset class.  Thus I don’t see a reason to be aggressive.

At times when the economy does well, risk doesn’t rear its head, risk-takers prosper and the returns on low-risk alternatives are unattractive, investors tend to drop their prudence and conclude that high prices aren’t a problem in and of themselves.  This usually turns out to be a mistake, but it can take years. – Howard Marks

https://www.oaktreecapital.com/insights/howard-marks-memos

Now it seems that everywhere there is talk of melt up. We pointed to that possibility over a year ago. We tend to be early. Being early is a good thing. It allows for us to prepare. It is time to prepare. We are preparing for higher interest rates, higher than expected  inflation so that leads us to consider adding commodities and further shortening our duration in bonds while also cutting back on risk overall. The January Barometer tells us that with January up 7.5% in 2018 that should lead to a positive year. Great start but no time to rest. Keep in mind there may be some bumps along the way.

If you are not currently receiving our blog by email you can sign up for free at https://terencereilly.wordpress.com/ .

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  or check out our LinkedIn page at https://www.linkedin.com/in/terencereilly/ .

pexels-photo-722664.jpeg

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.

Tax Reform Win – Pre Pay Your Taxes

We had a blog post written but felt that this time sensitive information was way too important not to share. Some sharp eyes have found away to take advantage of the tax reform bill in 2017 for 2018. Pre Pay your Property taxes especially if you live in a high tax state – NY, NJ, CA. Take a look!

NY TIMES (Click on Picture for link)

 

Want to Live Longer?

Andrew Scott is a Professor of Economics at the London Business School and is a co- author of The 100-Year Life: Living and Working in an Age of Longevity. I came across his work in an interview from the Council of Foreign Relations and I find his work helpful, not only in planning for client’s retirement but also in looking at the emotional side of retirement. We have had massive transformations in how we long we live our lives and in the quality of our lives since the dawn of the 20th century. Scott’s work shows that a 65 year old today is equivalent to being 51 in 1922! Something to accept going forward is that our lives will be longer and lived with a greater vitality and, in accepting that, working longer needs to be part of our retirement plan. Not necessarily in that same job some of you might dread going to everyday but working at something we love doing. Importantly, Scott’s research found that white collar workers that work longer – live longer. Something to consider.

65 is the equivalent to 51 in 1922, and today’s 78-year-old, in terms of mortality risk, is the equivalent of a 65-year-old. And you think about this longer life expectancy—you know, by some counts, children being born today can expect to live to high 90s, early 100s, if not more. It’s not clear that simply saving more will solve the problem, as we’ve been talking about here.

People never save enough anyway. People are fairly unresponsive to interest rates. So I think if we’re looking at how we finance longer lives, it’s going to have to be working longer.

And of course what is very striking with the data, too, is that effectively blue-collar workers, the earlier they retire the longer they live. White collar workers, the longer they work, the longer they live. I mean, it’s—old age has a very varied distribution across individuals, and some of that is strongly linked to income and particularly education. – Andrew Scott

https://www.cfr.org/event/retirement-challenges-individuals-global-comparison

Some pundits that stand out as perpetual bulls on the market are calling for a respite in 2018. We think that they might be right. The market has been on quite a ride this week and we used the rally this week to lighten up for some of our more aggressive clients. We still see the possible tax reform passage as a “sell the news” event especially in light of end of the year regulatory funding issues and a possible government shutdown dead ahead.

The S&P 500 is now up 13 months in a row and seems to have hit a speed bump. As the technology stocks hit their old highs from 2007 the computer algorithms hit the sell button and began to buy value stocks. Changes in investment positioning may be in store as value may begin to outperform growth. Growth has been the winner for perhaps a bit too long as returns try to revert back to the mean.  The yield curve here in the US is the flattest it has been since 2007 and we worry that it is about to invert and signal a recession. We warned two weeks ago that volatility would return and that it was only a matter of when. Well, it seems like this was the week. We expect more volatility to come as funding pressures increase with the turn of the calendar.

We have talked about the animal spirits being in control and now perhaps it is the computers turn. Keep an eye on key levels. We are watching 2666 on the S&P 500 very closely. The market bottomed at 666 in March of 2008. 4 times 666 is 2664. Close enough for government work. Programmers are humans after all and some numbers jump off the page. Call us crazy but we feel that it is an important hurdle and, make no mistake, the computers are in charge. We are still in it to win it but just a little less and a little less in.

If you are not currently receiving our blog by email you can sign up for free at https://terencereilly.wordpress.com/ .

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  or check out our LinkedIn page at https://www.linkedin.com/in/terencereilly/ .

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.