Make The Turn

“The bend in the road is not the end of the road unless you refuse to take the turn.”
-Anon

Macro markets bend, big time. They can bend up into the right. They can bend straight down. Refuse to make the big turns, and they can bend you right over.
 
I missed out on the upside associated with yesterday’s market turn. I was too early in introducing my call of a Bombed Out Buck. Too early, in hockey at least, is called being offside. In Asset Management, it’s called being wrong.
 
I’m in Pittsburgh this morning. I’ll be at the Penguins/Coyotes game tonight. NHL referees will have whistles at the game. I blew one on myself yesterday. Once the SP500 successfully broached my immediate term TRADE line (1042), and the VIX broke my intermediate term TREND line of support (26.13), my proactive plan became that the plan needed to change. Resistance, as we real-time risk managers like to say, became bullish support.
 
As the Buck Burned to a fresh 2-day low, US Equities REFLATED to fresh 2-day highs. We’ve been staring at this road map for US Equity returns since March. The inverse correlation between US Dollars and most things priced in Dollars remains crystal clear. That wasn’t the turn I missed.
 
The turn I missed was onto a road that currently doesn’t exist, yet…  
 
That turn is onto the long hard road of a US Dollar breaking out above my immediate term TRADE line of $77.07. If that happens, the 2-day REFLATION rally you just saw in US stocks is going to quickly revert to something that resembles the 4-day correction that preceded it (down -4.3% from the SP500 YTD high).
 
The simple change of plans yesterday was to stop shorting stocks and ETFs. “Let the fire breathe”, as my Dad would say. With the SP500 trading below its YTD closing high of 1071 and above my prior resistance level of 1040, that road’s bend is not over. It’s one that needs to keep bending before we can see what’s around the corner…
 
Yesterday’s SP500 closing price of 1054 is a lower-high. The US Dollar Index current price of $76.21 is a higher-low. On the margin, the bend in this road is bearish. Lower-lows for the Burning Buck and higher-highs for the SP500 would bend me back to the bullish side. From here, I’ll need to be mentally flexible enough to bend both ways.
 
So what was yesterday’s change of plans? As I said, I didn’t make any short sales, but I did continue to sell down my gross long exposure. I don’t manage money anymore, so there are really two ways that I expressed that:
 
1.      I raised my position in US Cash in the Asset Allocation Model to 66% by cutting my 10% position in Gold down to 4% (being long US Dollars here is the idea)

2.      I sold 3 long positions in our Virtual Portfolio, taking my total number of long positions down from 23 to 20 (I maintained 11 shorts)

 
I’m not going to be too hard on myself. In an up market, my risk management in 2009 on the short side of the Virtual Portfolio has been solid. Currently, out of my 11 short positions I only have 1 that has gone more than 4% against me (USO is -4.07% versus where I shorted it late last week).
 
In preparation to Make The Turn, here are some risk management points to consider in terms of US market internal factors:
 
1.      Volume: flashing +16% on my daily volume study, it was a solid reading. Not hyper bullish, but definitely not bearish.

2.      Volatility: VIX breakdown of the aforementioned TREND line (26.13), but closed above the immediate term TRADE line (25.32); tough spot…

3.      Range: down to 50 SPX points versus 58 points 2 days ago is, on the margin, bullish (tightening ranges generally are)

4.      Spread: the Yield Spread continues to test the lowest levels it’s seen since May; compression is bearish, on the margin, for Financials (BAC down yesterday)

5.      Breadth: the week-to-date change in our S&P Sector studies has been bullish, moving 7 Sectors out of 9 back to  bullish TRADE and TREND

6.      Risk/Reward: the daily setup moves to the bullish side with SP500 upside to 1071 and downside at 1042 (+1.5% vs. -1%)

 
What will perpetuate a bottoming process of the Bombed Out Buck?
 
1.      Consensus: being on the road can be painful, analytically, because some hotels only have CNBC (everyone on the manic channel gets the Burning Buck now)

2.      Fed Heads: rhetoric is slowly shifting to the hawkish side (see the Kansas City Fed Head’s comments last night)…

3.      Higher Prices: with Gold hitting new YTD highs, and the Russian stock market up +105%, Bernanke can’t call this perpetual deflation with a straight face

 
Despite fear-mongering the American people into group-thinking that we had to move to an “emergency rate” of ZERO percent, Ben Bernanke and his US centric politicized mandate still refuses to Make The Turn that Glenn Stevens and the Australians did yesterday.
 
ZERO percent is not a perpetual return on investment that either the American citizenry of savers or the Chinese government will continue to bend over for. “The bend in the road is not the end of the road, unless you refuse to take the turn.”
 
Mom and Dad, Happy Anniversary.
 
Best of luck out there today,
KM

 

 

LONG ETFS

EWG – iShares Germany
Chancellor Angela Merkel won reelection with her pro-business coalition partners the Free Democrats. We expect to see continued leadership from her team with a focus on economic growth, including tax cuts. We believe that Germany’s powerful manufacturing capacity remains a primary structural advantage; with fundamentals improving in a low CPI/interest rate environment, we expect slow but steady economic improvement from Europe’s largest economy.

CAF – Morgan Stanley China Fund
A closed-end fund providing exposure to the Shanghai A share market, we use CAF tactically to ride the more volatile domestic equity market instead of the shares listed in Hong Kong. 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. Although this process will inevitably come at a steep cost, we still see this as the best catalyst for economic growth globally and are long going into the celebration of the 60th Anniversary of the People’s Republic.

GLD – SPDR Gold We bought back our long standing bullish position on gold on a down day on 9/14 with the threat of US centric stagflation heightening.   

XLV – SPDR Healthcare
We’re finally getting the correction we’ve been calling for in Healthcare. We like defensible growth with an M&A tailwind. Our Healthcare sector head Tom Tobin remains bullish on fading the “public plan” at a price.

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.

 
SHORT ETFS

USO – US OIL Fund We shorted oil on 9/30. The three Fed Heads put rate hike rhetoric right on the table. If the Buck stops Burning, Reflation stops working.

DIA  – Diamonds Trust In the US, we want to be long the Nasdaq (liquidity) and short the Dow (financial leverage).

EWJ – iShares Japan While a sweeping victory for the Democratic Party of Japan has ended over 50 years of rule by the LDP bringing some hope to voters; the new leadership  appears, if anything, to have a less developed recovery plan than their predecessors. 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.


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