“A cold coming we had of it, just the worst time of the year for a journey, and such a long journey.”
When T.S. Eliot wrote his poem, “Journey of the Magi”, he was not referring to either the stock market, or stock market operators, but rather his own personal journey towards Christianity. Now with Keith on his way to Montauk this morning, it doesn’t mean things stop back here in the office in New Haven. Just like usual, the team is in early, feet on the floor, and wearing our global macro pants interpreting the facts as they stream in from our contacts around the globe.
Now my ability to interpret poetry is limited at best (I’m a knucklehead hockey player after all), but what I do know is that we stock market operators have a journey ahead of us as well. The journey is called September, which is historically the worst month for stock market performance. We had a potential subscriber who interpreted this journey very effectively yesterday when he wrote to us and asked:
“I am a monkey waiting for a pullback before I put on more aggressive trades (seasonal issues, plus market has moved a bunch). Recently, bad news is good news and good news is good news, and this seems a bit irrational. We have decided to slowly add to a more aggressive position between now and end of September. We are trying to avoid going long and then have the market pull a big reversal. We are long only and do not actively trade the portfolio, but we are small enough to be a bit opportunistic. Do you have thoughts on approaching the market this way? As an fyi, we are not paying clients yet but are actively looking into a subscription.”
While we have been circulating our Early Look on a complimentary basis, we, of course, don’t dispense advice for free. While free is cool, it is not a very lucrative business model. That being said, debating hypothetic views is not a process, so we will post our advice very directly. It is August 14th, two weeks before the supposed worst month in stock market performance begins, and this is where we stand:
- We have 27 long positions in our virtual portfolio and 8 short positions, for a more than 3 : 1 ratio of longs to shorts; and
- In our asset allocation model, we are at virtually the highest invested position we have ever been in. As stock market operators, we can debate the hypothetical performance of September based on its historical performance. Or we can play the game in front of us, and take a risk adjusted shot. The game in front of us is not telling us to wait 7 weeks until September is in the rear view mirror, but rather it is telling us to take the shot, right here and now.
I’m not going to pretend I’m Keith this morning, but I will tell you what I see from my seat, which is consistent with his view. First, volatility continues to make new lows and while it is not on its lows of the year, the CBOE volatility index is at 24.71, and that’s positive. Second, 1-month LIBOR is at 0.27%, which means that monies, on a short term basis, globally continue to be almost free. Finally, the U.S. government has made very clear their intention is to debase the currency, which is positive for the price of stock markets and commodities.
On the last point we held an in depth call on oil earlier this week, “Is Peak Oil Peaking?” (If you’d like to see the slides or a replay of the call, let us know.) For those non-subscribers who didn’t get a chance to dial in, I’ll cut to the chase on that call as well. Oil is up 54% and we are still bullish on oil. In fact in our virtual portfolio, we are long of the USO (the United States Oil Fund) and long of EWC (Canadian etf).
So, why are we continuing to take the shot on oil, despite the fact that it is up 54% YTD and the said “experts” don’t see much upside from here (consensus mean estimate for Oil in Q3 2010 for 34 analysts according to Bloomberg is $74.10, or less than 6% upside from here.) To begin with oil over the last year has a -0.89 r-squared to the US Dollar, so dollar down equals oil up. Also, and while we aren’t peak oil theorists, global supply continues to be constrained and the fall off in drilling this year by over -30% y-o-y is only going to exacerbate that fact. The funny thing with a declining asset (the world’s oil supply declines between 5 – 8% every year naturally), is that you need to produce more of it to sustain supply levels.
Along with being a fabulously talented poet, T.S. Eliot was also an adroit observer of human nature and his peers. He once noted, “Immature poets imitate; mature poets steal.” The same thing could be said for stock market operators. While we aren’t going to encourage our clients to steal, when the monies are free, don’t debate the semantics. The three Piggies are getting paid (bankers, debtors and politicians), so make sure you and your clients are getting paid as well.
Enjoy the journey,
Daryl G. Jones
XLK – SPDR Technology — Tech and Healthcare remain the two sectors most primed for accelerating M&A activity in Q4. Both look great from an intermediate term TREND perspective, but at a price.
EWC – iShares Canada — We bought Canada on 8/11 ahead of Bernanke’s pandering. Canada has what THE client (China) needs, namely commodities, which we believe will reflate as the buck burns.
USO – Oil Fund—We bought USO on 8/10. With Bernanke as the catalyst for the USD breaking down we want to be long oil.
QQQQ – PowerShares NASDAQ 100 — We bought Qs on 8/10 to be long the US market. The index includes companies with better balance sheets that don’t need as much financial leverage.
COW – iPath Livestock — This ETN tracks an index comprised of two thirds Live Cattle futures, one third Lean Hogs futures. We initially began looking at these commodities because of recession inspired capacity reductions combined with seasonal inflections. A series of macro factors including the swine flu scare, a major dairy cattle cull in response to collapsing milk prices and the collapse of the Argentine agricultural complex due to misguided policy provided us with additional supporting fundamental data points for the quantitative set up in price action.
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, which posted a positive Q2 GDP number.
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.
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.
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. We believe that future inflation expectations are currently mispriced and that TIPS are a efficient 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.
VXX – iPath VIX –As the market rolled over and volatility spiked, we shorted the VXX on 8/13.
UUP – U.S. Dollar Index – We believe that the US Dollar is a leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. Longer term, the burgeoning U.S. government debt balance will be negative for the US dollar.
DIA – Diamonds Trust- We shorted the financial geared Dow on 7/10 and 8/3.
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.
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.