This note was originally published at 8am on December 13, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.
“The only reason for time is so that everything doesn’t happen at once.”
Intraday yesterday we made another “Short Covering Opportunity” call. It was no different than any of the other short covering calls we’ve made in 2011 (August 8th, September 12th, October 4th). It’s what we do. Timing matters.
Immediately after making the call our Sales Desk and tweet-machines lit up like a Christmas tree with questions that weren’t all the same – but they certainly rhymed: “but what’s changed”… “why here”… “what’s the catalyst”… etc.
The summary answer to all of the questions is that nothing in our risk management process changed – time and price did. With a long SP500 (SPY) position, a 12% asset allocation to US Equities, and 10 LONGS vs 4 SHORTS in the Hedgeye Portfolio, this is the most bullish position I have taken in all of November-December (that’s a good thing – the SP500 is down for both months).
Back to the Global Macro Grind…
If you go all the way back to a week ago today, our Senior Analyst of European research, Matt Hedrick, and I were making an explicit call to short Global Equities and Commodities into the EU Summit. Long live King Dollar (UUP) versus the Euro (FXE) was implied.
On two separate occasions (last Tuesday and Wednesday) you had an opportunity to sell SP500 1265-1268. Maybe you didn’t top tick it, but hopefully you cut your gross and net exposures up there because I can assure you that in the world of your own money, a -3% drawdown of your capital (from 1268 to yesterday’s lows of 1229) matters.
Now some people throw their arms up in the air and say, ‘well, I can’t manage that type of a move’ or ‘I’m too big to make those types of decisions that quickly’ – and I hear and respect where they are coming from. But that doesn’t mean that other people can’t.
Yes We Can.
Managing your gross and net exposure within a band of 300 basis points of risk (3%) is very achievable if A) you have a Global Macro research process and B) you have the catalysts right.
Sometimes catalysts like the EU Summit are scheduled events. Sometimes the catalyst is simply time and price. You need a process to absorb both.
Why did I buy the SP500 (SPY) yesterday?
- My immediate-term TRADE line of SP500 support (1232) held
- My immediate-term TRADE line of VIX resistance (27.78) held
- My immediate-term range of risk collapsed to 37 SP500 points wide (vs 77 on the day prior)
Those first two points are easy to understand. US Equities (SPY) and Volatility (VIX) are inversely correlated on the order of -0.7 right now and of the many factoring relationships in our model, that’s one of the most important ones to consider.
Volatility is also one of the most misunderstood risk factors in all of portfolio construction. In many instances it’s a coincident to lagging indicator – in some instances it’s a leading indicator. That’s why it drives people nuts. That’s why I have built a model to front-run my own volatility signals.
Front-running? Bad word – if you run a brokerage like Corzine did. Good idea if you want to get ahead of the robots that are making decisions in real-time. If you didn’t know that they chase beta, now you know.
Most of you who have dialed into our Morning Call (every morning at 830AM EST – ask email@example.com for access) know that I front-run my Volatility range using a ‘range of risk’ model that calculates the probability of the next move in both volatility and price.
What does that mean?
- If my range is compressing (ie from 77 points wide to 37 points), the implied risk of the range is going down (= BUY)
- If my range is widening (ie from 37 points wide 145 points wide where it was last Tuesday), implied risk goes up (= SELL)
To be clear, my ‘range’ signal is one of the many signals I consider before making any exposure, asset allocation, or position decision. Remember, Multi-Factor and Multi-Duration is how we roll.
Not unlike seeing a play develop on the ice, time and patterns are omnipresent. As opposed to the time and space a hockey player needs to consider in making a short-term decision, solving for time and price risk in markets is what can make for a longer-term career.
My immediate-term support and resistance ranges for Gold (bearish TRADE and TREND), Brent Oil (Bearish TRADE, TREND, and TAIL), and the SP500 (bullish TRADE; bearish TAIL) are now $1664-1728, $107.12-109.29, and 1232-1248. On a move back towards 1248, I’ll likely do the opposite of what I did yesterday. Time and price pending.
Best of luck out there today,
Keith R. McCullough
Chief Executive Officer