“I hear and I forget. I see and I remember. I do and I understand.”
-Confucius
Managing risk up here on the high-wire of a global US Dollar Devaluation move is what it is – a daily and athletic exercise of doing. I hear the American commoner’s disgust. I see the bankers getting paid. I trade around everything I see and hear, as I try to understand.
Trying to make sense of an interconnected global macro system of colliding dynamic factors isn’t for everyone. Neither is trading. Or at least doing macro and managing risk weren’t given parts of the investment process in years prior to 2008. That’s when a long/short stock picking hedge fund monkey like me could make money in a market that went straight up alongside access to capital. That’s changed.
Every day we wake up to slug it out with a global macro consensus. Sometimes consensus isn’t bullish enough. Sometimes it’s so nauseating that you can only fade it. Sometimes it isn’t bearish enough. Consensus is the backbone of the market’s being. Embrace it, daily, and you begin to understand.
My daily risk management process includes the measurement of ranges, deltas, and spreads. If there is something we can attempt to quantify on those 3 scores, we do.
One of the weekly sentiment indicators that was shining bright red on my screens yesterday was the Institutional Investor sentiment survey. The spread in that survey was one of the most bullish we have measured in well over a year. The spread between Bulls to Bears widened to +21 points (for the Bulls).
The most interesting part of the math was how bombed out the Bears were. Less than 4 months ago almost 50% of the respondents in that II survey were outright bearish (at the bottom). In this week’s report, only 26% of investors admitted they are bearish anymore (at the top).
My understanding here is quite simple – and it’s no longer that investors aren’t bullish enough – investors aren’t allowed to be bearish! When your director of research or master of the hedge fund universe PM rains down on you every morning for missing the latest daily market move, you end up in a box. You end up with embedded rules that govern your analytical output – it’s called career risk management. Sometimes you just aren’t allowed to be bullish or bearish. That’s obviously a problem.
So with the Chinese and US stock markets pinned up here at YTD highs and people not being allowed to be bearish anymore, what do you do? I think the best option is to wait and watch. All the while, keep measuring your ranges, deltas, and spreads. Patience provides opportunity.
I know, for Mr. Qualitative Research Superstar… this part of the investment process probably makes you laugh. Trust me, there are a lot of people out there just like you. I used to be one of them. Evolving your investment process should be a perpetual exercise in doing.
So let me take you through some of my basic training global macro calisthenics this morning and flash you some US market factors:
1. I have the SP500’s daily range of price probability at 43 points = tight and trade-able (bullish)
2. I have immediate term TRADE support/resistance for the SP500 at 989-1,010 = risk barely outrunning the reward (bearish)
3. I have the daily spread for the VIX at 3.15 points = volatility remains broken across durations (bullish)
4. I have the daily delta for NYSE volume expanding = 1st day in the last 14 where that came on a market down day (bearish)
5. I have the daily spread of the US market’s breadth deteriorating = one day does not a TREND make (bearish)
6. I have 9 out of 9 SP500 sectors in my quantitative model signaling positive TRADE and TREND = (bullish)
Now let’s flip over to a cross section of asset class and geographical considerations:
1. China closed down another -2.1% overnight, taking its 2-day decline from the YTD high (+92%) to -3.3%
2. Australia shot up another +1.4%, 2-days AFTER signaling that their next move in interest rates is UP
3. Germany is up +0.4% again this morning and continues to lead mature western European economies despite a 1.44 Euro
4. Turkey, a beacon for emerging market growth, is flashing a big daily negative divergence this morning, trading down -2.5%
5. The US Dollar made a new low yesterday trading below 77.50 on the US Index
6. The CRB Commodities Index made a new YTD high yesterday, trading up to 268
So where does this all wash out? You tell me. We all have different investment styles. We all have different durations. I don’t wake up in the morning trying to be everyone’s banker or politician. I don’t wake-up trying to be bullish or bearish. I wake-up trying my best to do, and to understand.
Best of luck out there today,
KM
LONG ETFS
EWG – iShares Germany —Chancellor Merkel has shown leadership in the economic downturn, from a measured stimulus package and budget balance to timely incentives such as the auto rebate program. We believe that Germany’s powerful manufacturing capacity remains a primary structural advantage; factory orders and production as well as business and consumer confidence have seen a steady rise over the last months, while internal demand appears to be improving with the low CPI/interest rate environment bolstering consumer spending. We expect slow but steady economic improvement for Europe’s largest economy.
XLV– SPDR Healthcare — Healthcare has lagged the market as investors chase beta. With consumer confidence down and the reform dialogue turning negative we like the re-entry point here. Buying red.
CAF – Morgan Stanley China Fund — A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the wave of returning confidence among domestic Chinese investors fed by the stimulus package. To date the Chinese have shown leadership and a proactive response to the global recession, and now their number one priority is to offset contracting external demand with domestic growth.
QQQQ – PowerShares NASDAQ 100 —With a pullback in the best looking US stock market index (Nasdaq) on 7/24, we bought Qs. The index includes companies with better balance sheets that don’t need as much financial leverage.
CYB – WisdomTree Dreyfus Chinese Yuan — The Yuan is a managed floating currency that trades inside a 0.5% band around the official PBOC mark versus a FX basket. Not quite pegged, not truly floating; the speculative interest in the Yuan/USD forward market has increased dramatically in recent years. We trade the ETN CYB to take exposure to this managed currency in a managed economy hoping to manage our risk as the stimulus led recovery in China dominates global trade.
TIP– iShares TIPS — The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%. We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.
GLD – SPDR Gold - Buying back the GLD that we sold higher earlier in June on 6/30. In an equity market that is losing its bullish momentum, we expect the masses to rotate back to Gold. We also think the glittery metal will benefit in the intermediate term as inflation concerns accelerate into Q4.
SHORT ETFS
XLF – SPDR Financials – Gotta love the backward looking guys at AXP. Freakout and fire people at bottoms, then talk up the market at bottoms. Shorting hope.
XLI – SPDR Industrials – We don’t want to be long financial leverage, which is baked into Industrials.
EWI – iShares Italy – Italian Prime Minister Silvio Berlusconi has made headlines for his private escapades, and not for his leadership in turning around the struggling economy. Like its European peers, Italian unemployment is on the rise and despite improved confidence indices, industrial production is depressed and there are faint signs, at best, that the consumer is spending. From a quantitative set-up, the Italian ETF holds a substantial amount of Financials (43.10%), leverage we don’t want to be long of.
DIA – Diamonds Trust- We shorted the financial geared Dow on 7/10 and 8/3, which is finally overbought.
EWJ – iShares Japan –We’re short the Japanese equity market via EWJ on 5/20. We view Japan as something of a Ponzi Economy -with a population maintaining very high savings rate whose nest eggs allow the government to borrow at ultra low interest levels in order to execute stimulus programs designed to encourage people to save less. This cycle of internal public debt accumulation (now hovering at close to 200% of GDP) is anchored to a vicious demographic curve that leaves the Japanese economy in the long-term position of a man treading water with a bowling ball in his hands.
XLY – SPDR Consumer Discretionary – As Reflation morphs into inflation, the US Consumer Discretionary rally will run out of its short squeeze steam. We shorted XLY on 7/9, 7/22, and 8/3.
SHY – iShares 1-3 Year Treasury Bonds – If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yields are going to continue to make higher-highs and higher lows until consensus gets realistic.
