Halfway There and Back Again: Thoughts on Year-End and 2021

It’s been four months since I last posted on this blog, and it’s time to put some thoughts on paper again.

First things first: it’s been a long year, and I hope 2021 is better for everyone.

Second: for new readers, at the top of this previous report you will find the standard disclaimer & brief background of my views over the last few years. While you’re there, I recommend catching up on the other archived reports.

Third: I am a portfolio & fund manager and key advisor to pension funds, hedge funds and family offices. If you’re an institutional investor looking to expand capabilities or rules-based discretionary strategies, and in case the Volatility in 2020 makes you look for new alternatives heading into 2021, feel free to reach out. I’m flexible and can adapt to your needs – I can quickly assemble a strong team or help an existing one, while working effectively with key persons. In the past I have also taken on full-time roles that go well beyond advisory work. If interested please get in touch here. Thanks for your support.

Today we’ll begin with some thoughts on Trading and more importantly, Risk Management. I believe this will be essential as we head into 2021.

I’ve been doing this for some time, and the most fortunate aspect of this game is that we get to learn constantly, every day.

One of the most important things I learned in my career is that there are two main successful approaches to both Investing & Trading: (1) Anticipatory and (2) Reactive.

In the investment & trading game, there is no universal right way for everyone, only the right way for you. You may focus on being Reactive and be very successful: for instance Momentum & Trend-following (if price does X, it might do more X). You may focus on being Anticipatory and be equally successful: for instance Value & Mean-reversion (if price does X, it might undo X). Some people are hard-wired to think one way or the other, and that’s ok. I know many great traders (on Twitter and elsewhere) who successfully demonstrate this every day.

Blending the two approaches, there are some legendary (and by definition extremely rare) Traders who switch style according to market conditions. They become more Anticipatory or more Reactive, adapting to the flow of the market. They are the Generalists. I was fortunate to spend many years learning from some of them, and they gradually became mentors, shaping my approach to markets as it is today. You’ll see why this is so important as we dive into charts later on.

Most traders manage only their own capital, and some aggressively push for high returns without any hesitation even if they undergo multi-week drawdowns of 20%, 40% or even more. “Long until wrong” mentality works for these traders who have no mandate constraints, but it’s not reality for most institutional managers.

For traders who manage outside capital or firm capital, constraints are a nearly universal problem. I’m going to focus specifically on the institutional world here, where I’ve worked my entire career. When you advise or directly manage institutional capital, drawdowns of 10% (or even 5% at times) are not acceptable. Period. This is your primary constraint. This means you swing only when the pitch comes straight down the middle, and then you swing for the fences. If the pitch comes slightly off, you have to pass. A great year is up 10-15% with a 2-5% max drawdown. A bad year is down 5% with markets down 20%, because you don’t get paid on relative performance. There are myriad other constraints like Liquidity, which is getting worse with each passing year. You get the picture.

As a result of institutional constraints, 95% of my time is spent on anticipating & evaluating upcoming risks, while 5% of my time is spent acting on trades that swing for the fences. It’s homework 95% of the time, in order to be ready for the 5% full swing at the bat. Few people are hard-wired for this opportunistic trading; most people want to trade all the time. For instance, I got a laugh when, after posting a concerning chart (remember the 95%), someone yelled “you’ve been short since 1932” (in hindsight that was the day the market put in a nice top). Some people want all my comments to have a “Buy” or “Sell”, but it doesn’t work that way – like I said, only about 5% of the time.

Now that we’ve set the table, let’s talk about markets. This is my 95% time also known as homework time. If some of these big ideas come to pass, there’s a tremendous opportunity to Anticipate OR React to each one. And remember: this moment is a snapshot in time. Who knows when I’ll publish the next blog, and conditions will almost certainly change. If they do, you better believe I’ll have adapted to them. So don’t get stuck in one mode of thinking – “MC said this was a Buy/Sell!” (no I didn’t). Look at the conditions I’m highlighting throughout the text. If conditions change, trade accordingly. Anyone can keep track of this with some discipline. There’s no secret sauce… homework wins the race.

CONSOLIDATED THOUGHTS ON EQUITIES

U.S. Equities continued to recover last week, and the tape improvement suggests the September correction might be over. But in the bigger picture, I am concerned for several reasons:

  • First, traders have begun looking past the U.S. election & other key Macro catalysts and started aggressively pricing a favorable, low-risk outcome. How long this honeymoon lasts, nobody knows. But in a span of merely two weeks, sentiment has swung significantly, from a contested/hard scenario to a landslide/easy-stimulus scenario. As a result, some of the most speculative areas (for instance Solar Stocks, many with little institutional liquidity) have moved vertically, driven by (yet again) massive Call buying and Retail flows nearly identical to the “reopening/trash rally” back in late May-early June.
  • That late May-early June rally was driven by all the worst-performing & bankrupt stocks, some of which went up hundreds of percentage points only to come crashing down a few days later, as the last Shorts were squeezed and Retail flow dried up. More on this later.
  • The final move into the June peak was a 2-3 week affair which at the time, produced a very convincing Breadth Thrust at the exact TOP of the market. None of the analysts I spoke to at the time could recall this ever happening before. It was certainly unusual. Last week produced identical Breadth Thrusts in many of the same indicators. And this week the upswing will match the June rally duration at its peak – which may or may not be important, but needs to be watched closely for clues.
  • In a year which has been characterized by Speculative bursts around brief/unsustainable narratives, the current burst just seems like more of the same.
  • Recognizing this as potentially still the same difficult regime is critical, as we move forward into the final months of the year and 2021.
  • Despite last week’s tape improvement, many of my core concerns from late May/early June (when many deep cyclical U.S. and EU Stocks peaked and still haven’t recovered), reiterated again at the peak in late August/early September, remain mostly unresolved:
    • The September correction merely reset an extremely euphoric and highly unstable market condition back to neutral. The market peaked at a “Spinal Tap 11” and corrected to a neutral “5”, which left plenty of room to go the full distance back to “1”. This was unusual to say the least. Dip-buying flows were never tested or challenged (in fact Buyers stayed in business as usual mode). Put Volumes never spiked – not even for a day. Throughout history, Stocks corrected far less than they did in September, and many of those pullbacks produced Fear readings that were multiples higher. This time markets dropped 10-15% and no one blinked. Something looks off.
    • Macro positioning imbalances remain at historic extremes and subject to a major disruption event – catalyst unknown. Specifically, Bond AND Dollar Speculators in Futures markets remain stubbornly Short one of the largest combined notional positions in history. This extreme Bond and Dollar positioning is a Major potential source of instability – with significant impact for all risk assets and particularly Equities.
    • This is especially dangerous because Stocks appear to be trading well short-term (the usual names making new highs, Breadth perking up again as mentioned), but key Macro catalysts remain far from certain and could quickly set off a chain reaction.
    • Accordingly, I’m not sure this is a time to be aggressively positioned in anything.
    • To be clear – I’m not as concerned, in comparison to January or February for instance. But I’m concerned about further shakeouts (or worse) in consensus areas, particularly Tech and especially as we head into 2021.
    • The next weeks will be critical to gauge the follow-through potential of the Stock market – particularly the response to the tape improvement – and *IF* another short-term peak materializes, a C-wave capitulation scenario could still unfold (catalyst unknown). Ideally, another decline could finish what has (so far) been only a “Halfway-There” correction. More on this later.
    • Alternatively, *IF* Stocks accelerate higher with no pause (which could happen, and we’ll see soon enough), Momentum could drive another year-end blowoff similar to 7 of past 11 years: 2009, 2010, 2013, 2014, 2015, 2017 and 2019 – all of which led to extremely volatile conditions for 3-6 months following the start of the next calendar year.

Chart 1: Most Breadth Thrusts throughout history were extremely Bullish for Equities, particularly because they came after an oversold condition with capitulation selling. For decades, they were one of the most reliable signals one could look for, and were almost always associated with the start of new multi-year Bull Markets. This began to change after the mid-2000s. Many signals still delivered spectacular returns, but others just led to short-term gains and more market chop, while a few even failed completely. Case in point, see the last two signals below had similar features to the one which triggered last week – they (1) did not occur after a major decline, (2) nor had any sign of capitulation selling. As a result, both signals failed to follow-through meaningfully and in fact led to multi-week pullbacks in the market. Again, for a Retail investor who doesn’t care about 5-10% drawdowns, those signals were ok. But remember what I said about institutional trading and drawdown constraints – and pay close attention to the next few weeks as this could morph into another weak signal. Any lack of meaningful follow-through in the market would be an important red flag.

Additionally, while on average the past signal returns were great, one doesn’t earn past returns. One needs to think independently, try to gauge what regime/context this is, and then figure out what is the appropriate risk to take. The signal in late 2018/early 2019 led me to accumulate one of my largest Long exposures ever, and I remained Bullish through most of 2019 (for those who remember). The signal in 3Q19 led me to become even more optimistic (even writing a blog post at the time), but note how it did not follow-through according to expectations, at least not initially (first red flag). The signal in June 2020 led me to pay close attention, because I was concerned about Stocks – but the signal was positive. Something looked off, and in hindsight it was a tactical top (second red flag). What about the current signal? Based on “2020 rules of engagement”, I’m leaning towards: this pitch doesn’t seem straight down the middle. So, I simply won’t swing. It doesn’t mean you shouldn’t – and it doesn’t mean the world will end. Being aggressively Bullish here could work. But it’s not for me, and I’ll follow my process (as you should follow yours).

Chart 2: Here is how some of my Core Active Management & Timing Models looked right before the last election (I took down exposure gradually from mid-August onward, after the Sell signals visible on the chart began to trigger):

Chart 3: Here’s how things looked by the end of the year (2016). Pretty much what one would hope for in a reasonably well-functioning Model – despite all the noise surrounding that election event, it was a perfect pitch down the middle and I took a swing (via a combination of Anticipatory and Reactive positions, as the bottom was being formed and later when it was confirmed with the turn).

Chart 4: Heading into this election, here’s how things look now. The Long side could work here, but it’s not exactly the same setup. And there have been many occasions where similar signals turned down from this neutral area for a second oversold Buy entry (for instance – see the bounces in March 2018 and November 2018). Maybe IF this turns down at some point, there’s a chance for a C-wave capitulation selloff. But for now, the Model is still climbing, so Bulls have the ball until the Model turns.

Charts 5/6: Macro positioning imbalances remain at historic extremes and subject to a Major disruption event – catalyst unknown. Specifically, Bond AND Dollar Speculators remain stubbornly Short one of the largest combined notional positions in history. This extreme Bond and Dollar positioning is a Major potential source of instability – with significant impact for all risk assets and particularly Equities. And don’t forget Bond Volatility is at record-lows, usually a sign that things might have gone too far in one direction – where an Anticipatory approach for some mean-reversion could prove useful.

Charts previously shared on Twitter:

*Note: Some think the Bond Shorts are basis trades but public research has debunked this, showing more than half of the market was wiped out in March and never came back (old cats don’t sit on cold stoves). And there are always curve steepeners/flatteners involved in the positioning mix, which is why the chart is adjusted for Duration. Overall the picture looks fairly clear, suggesting Bond Shorts and the narratives around them are very extreme.

Chart 7: Positioning is so extreme in fact, this chart from JPM shows Speculators piling into Rate Steepeners at decade highs. Not shown in the chart, I checked the full history and the last time this happened was in 2006-2007, right before Bonds embarked on one of the biggest rallies of all time. This is the same message reinforced in the prior chart – should a Bond rally scenario materialize it would force many panicked Shorts to cover.

All of this is important because Macro relationships matter and $ Trillions of Dollars of institutional money will absolutely care if a meaningful, sustainable Correlation shift occurs among Major Asset classes.

Chart 8: I shared this chart on August 24 with the following comments: “The Dollar and Stocks have moved like a mirror image since March. Their correlation has collapsed to near the most negative in history. In a liquidity-driven market, the biggest risk could be any drop in liquidity triggering a USD rally.” The Correlation isn’t the cause of the problem, it’s a symptom. This is a liquidity-driven market. In a liquidity-driven market, the Dollar functions as the global pressure valve. Adding Trillions in liquidity to the system, the Dollar falls, and money is driven into risk assets. As liquidity recedes at the margin (which is happening for a while now), the Dollar begins to chop sideways or even rally sharply, and Equities suffer. This same dynamic was in place for much of the mid-2000s and early 2010s – see the long periods of negative Correlation in the chart below. In summary, these Correlation regimes can last longer than most people are prepared for. Absent some major shift in global fundamentals, there’s a good chance this Correlation regime could last well into 2021, and prove to be the most important relationship to watch, for all investors and traders.

Chart 9: As mentioned briefly earlier, the September pullback in Stocks was only a “halfway-there” correction in many key areas. For instance, S&P Daily Sentiment (data from trade-futures.com, one of the best subscription services for professional traders) bottomed at 44. For reference, before the last election it bottomed at 10. Most prior market corrections, even smaller ones in the 5-10% range, pushed Sentiment well below current levels. For instance in August 2019 a 6.8% pullback dropped DSI to 35, and in October 2019 a 5.5% pullback dropped DSI to 34. This time around Sentiment barely cracked below the halfway line – there was no real fear in the market. And the moving averages, including the one displayed in the chart, are still falling (after hitting the ceiling), a process which looks far from finished. Ideally, some more downside turbulence could help finish what has (so far) been only a “halfway-there” correction.

Charts 10/11/12: the September correction was highly unusual: dip-buying flows were never tested or challenged (Buyers didn’t even blink, and in some cases got more aggressive). Some Charts previously shared on Twitter:

  • This year, more than $15B flowed into the QQQ ETF alone. At one point just a few weeks ago this figure reached $19B. The first chart below shows $22 Billion in Net Flows over the last 12 months, one of the highest figures ever.
  • Nearly $50B has flowed into Tech Sector funds YTD (second chart below), non-stop record flows. Incredible how almost no net money went into 8 key Sectors, a winner-take-all market driven by extreme investor preferences.
  • In yet another chapter of the 2020 story that never ends, Calls on Tech Stocks and ETFs such as QQQ (third chart below) are still being bought aggressively – no fear at all despite the 14% drop in the market (and even bigger drops in key Tech names). Combined, this represents Trillions of Dollars in single-stock & ETF exposure.
  • Not shown, QQQ short interest is the lowest 2 years. The last time at similar levels was near the September/October 2018 peak in markets, a period characterized by significant complacency.

Moving along, here are some Global charts I’m watching as we head into Year-End and 2021. It’s not so clear this is a risk-on, “all systems go” environment just yet. It could turn out to be, but many areas remain in steep downtrends with no real evidence of a structural recovery. Their combined message matters, both fundamentally and for the longer-term health of the market:

CLOSING THOUGHTS ON MARKETS: YEAR-END AND 2021

2020 has been characterized by Speculative bursts around brief/unsustainable narratives. Narratives spread faster than ever, reaching consensus rapidly, running out of steam and reversing just as quickly. This doesn’t look like a Passive Management environment. Increasingly, it looks like an ideal world for Active Management. Adaptation is key.

In a world dominated by Passive investing, the price discovery mechanism may rely even more on the marginal Buyer/Seller, i.e. Active investors & traders. Combine this with (1) lower institutional-size daily liquidity and (2) a new generation of Retail investors who aren’t shy about trading highly speculative ideas, and the result is that Retail trading has grown to ~25-30% of U.S. equity market volume, according to major brokerage firm filings. A mere 10 years ago Retail traders were less than 10% of the market (if memory serves, this figure may have been closer to 5%). This is a stunning change, probably structural, and almost certainly accelerated by this year’s crisis.

Market dynamics are changing again, as they did in various phases throughout history. There’s enough evidence to suggest 2021 will require even more Active Management capabilities and resources, including effective, transparent rules-based systems for fast & flexible decision-making as markets shift.

Let’s imagine if Stocks were to go lower at some point, forcing policymakers to dish out more Liquidity. During such a panic, the Dollar and Bonds would perhaps rally sharply from forced Short-covering, while Stocks would lurch through a capitulation. Then right at the peak of the panic, a real cyclical recovery would begin, driven by a core fundamental global improvement.

Imagine for a moment, what Passive investor returns would look like if (1) the largest weight in Stock portfolios (Tech) were to decline significantly along with the rest of the market, (2) then underperformed in a fundamental recovery while beaten-down Deep Cyclicals (which no one owns) staged a historic rally, all while (3) Bond Yields rose sharply in tandem with growth expectations.

This combination would essentially be the most toxic Passive investing environment one can imagine. A fundamental cyclical Rotation might not carry enough market-weight to shield Equity indexes from the damage of an extended down-phase in mega-cap Tech Stocks. As a result, Indexed investors could tread water for an extended period of time. Passive investors are massively concentrated in these few Tech names whether they realize it or not. Trillions of dollars in Passive vehicles are tied to the least-diversified group of Stocks in the history of markets. Ironically, the whole concept of diversification for retirement has been thrown out the window. Any mean-reverting correction and subsequent extended underperformance in Tech, along with a rise in Bond Yields, would be a passive investor nightmare.

Will 2021 be the year for Active Management? No one knows, but I suspect maybe this time around just might do it. With Bond Volatility this low, it could just be a matter of time.

Just watch – and wait for the pitch to come straight down the middle.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

Speculation Mode: ON

Today is almost three months since I last posted on this blog, and it’s time to put some thoughts on paper again.

Standard disclaimer for new readers: email replies containing charts, market history and thoughtful analysis are always welcome. Any responses discussing geopolitical events or theories of how the world should work will be spam-filtered and not read. Also a warning: anyone sending inappropriate or disrespectful feedback will be permanently blocked. I won’t even read them, because someone helps me filter notifications. Lastly, (1) anyone who fails to understand the time frames being discussed in this report should stop reading (and shouldn’t be trading in the first place) and (2) anyone who trades based on any information contained herein is fully responsible for their own decisions.

For those who started following my work recently: I’m a trader running a hybrid strategy with two core components: (1) Core Models which tend to have anticipatory (early) characteristics, and help identify potentially critical scenarios & market opportunities. (2) Technical Models which continuously scan a Global single Stock universe in order to confirm IF those scenarios are turning active and actionable (and only then, requiring me to respond). Together, Core Models help me lock into ideas early, and Technical Models help me with timing/implementation.

As a quick background, I spent most of 2019 reiterating my extremely Bullish case for Global Equities, including a cyclical resurgence theme led by Semis & Tech. Between December 2019-February 2020 I began posting some early concerns on Twitter, which culminated in two major reports (January 10 and February 21) noting some of the extremes that had triggered in my Core AND Technical Models simultaneously. By March the market decline was in full force but also transitioned into an unprecedented meltdown. I began getting constructive in early March, again noting the early Core Model signals developing, and by mid-March all of my Technical Models were aligning for a Major potential buying opportunity in Stocks. Between March 19 and March 24 most of my Model data began to turn up sequentially, suggesting the market was at a potential turning point to the upside.

For new readers, I strongly recommend reading all the 2020 free blog reports in order to better understand how we got here. They illustrate the signal process I’ve described and how I apply leading, coincident, and lagging signals to build evidence for a potential important shift taking place. More importantly, it will also help understand what I’ll show here today and the potential timing implications.

Let’s get to it:

Some of what you’ll see below is familiar, and not coincidentally, was discussed on January 10.

First let’s start with the Put/Call Ratio (y-axis inverted for all charts), which earlier this week closed at 0.40, the lowest in six years (June 2014), and the 29th lowest one-day print in the last twenty years, a 0.60% frequency event. This is extremely rare and indicates pure euphoria developing in the Stock market, but experienced traders know it’s only one data point – within a bigger picture that is still in flux. For those who want to study this further: Helene Meisler (@hmeisler), a respected market analyst & writer, recently posted a thoughtful analysis on this signal, which I recommend reading here.

Next, we see the 10-day P/C Ratio has collapsed to 0.501 – in the most extreme 1% of days in the last twenty years – and just exceeded the extreme 0.502 made at the February peak (which was just a few days before Stocks turned down).

Lastly the 21-day P/C Ratio was at 0.580 a week ago and has collapsed to 0.532 – now in the most extreme 2.7% of days in the last twenty years – and less than three cents from the extreme 0.507 made at the January peak (which was a month before Stocks turned down). Having fallen at the pace of five cents in just a week, it could tie January’s extreme soon.

Unlike the January post, I didn’t show the P/C 50d today, which is moving rapidly to overbought but hasn’t reached an extreme yet. Maybe it will do so in a few weeks, maybe it won’t. All we can consider is what’s already on the table today.

I shared the above P/C Ratio charts on Twitter and said monitor very closely from here. Experienced traders know what this means, but some people don’t. Here’s what it means plain and simple: First, Stock traders need to become more aware and sensitive to any holding, Group or Sector that begins to show weakness particularly if markets continue grinding higher (there seems to be some evidence of this already). Second, Macro traders will be looking at the broader environment for deterioration: any bid to the Dollar (which we want to monitor as discussed here, especially as bank strategists are now calling for a “dramatic fall” in the Dollar and “five to ten years” of declines), any increase in Rates Volatility (might be starting as well), any stabilization in VIX (watch 200dma + August 2019 highs 24-25 area) and any Equity Sector/Geographic weakness developing. The more evidence we get that things are deteriorating under the surface, the more pressure Equities will continue to ignore (as usual) and then release all at once. In Q1 it took about a month, and if the same happens here, Q3 looks like a potential problem. This aligns with signals I’ve started to see in some Core Models, for instance one noted here.

In summary, the following quote from my January 10 report applies similarly today: “If markets continue to grind higher, they’ll likely generate some of the most extreme chart signals in history. It’s already happening in the Options markets, where extreme & historic complacency is now in full display:” It happened then, and the market held for another month, weakening under the surface and finally collapsing. With momentum still relatively strong today, it wouldn’t be surprising if a similar sequence played out. Again, this is my best guess using available information we have today. If you’re reading this from a future date, it will look easy in hindsight, but that’s illusion talking… and it’s never easy.

THE BIGGEST CONCERN

I spent the last several weeks noting the extremely lopsided Buying flows into ETFs focused on Tech, Healthcare, Growth (which is basically Tech & Healthcare) and High-Yield Credit. My Twitter feed has all those charts for reference, including this one updated below:

Everywhere across the ETF world, this all-in speculative behavior is in full display and growing.

Professional managers are all-in too. Below, Equity Mutual Funds are nearly tied for the highest exposure to Mega-cap Growth Stocks in a decade. This is consistent with the massive ETF buying of Tech, Healthcare & Growth – and it seriously challenges the consensus view that this rally is “hated”. Most importantly, these Funds represent Trillions of Dollars in managed Assets, far bigger than the Hedge Fund/CTA cohorts. Not shown but equally important, NAAIM fund manager data from this week also confirms this, as some Active Managers reported the highest exposure in months (and in the case of a subgroup, years).

Image

Adding fuel to the fire, it seems every day a chart goes around showing Robinhood traders in a feeding frenzy over the latest fraud/bankrupt company and triggering a huge squeeze. They’re piling so aggressively into low-priced Stocks that the Volume in the Nasdaq Composite made a new record high this week:

To get a sense of the explosion in Speculative trading taking place, below is the Volume Ratio between the Nasdaq Composite and the S&P. (**Once again credit goes to Helene Meisler for the idea behind this chart, which she runs a variation using the NYSE Composite here.) This seems far from a pessimistic, risk-averse market. Maybe at this pace there will even be another classic contrarian magazine cover like the ones in Q1, who knows.

But what MOST concerns me here is, despite clear evidence that rampant speculation is all over the place in the Options, ETF, Mutual Fund and Retail flows, every day I continue to hear this rally is “hated”.

Even worse, over the past few weeks a new consensus has emerged that “Everyone is Short” Equity Futures. It’s one of the reasons I wanted to finally write today, and attempt to show what’s really going on.

While it’s true that Dollar Short amounts in Equity Futures are high relative to history, as a percentage of Open Interest, Speculators are Net Short an insignificant amount (just 1% of OI).

The most that Speculators were Short recently was just 2.2%. On one hand, it’s true that 2009 & 2018-2019 started with Net Shorts in a similar range of 2.2%-2.4% [purple dots] and the market rallied strongly. But it’s not entirely true as the Shorting in 2009 and 2018-2019 happened after the bottoms were in. This is particularly visible in the 2018-2019 case, note the light blue shaded area shows Specs put on Shorts several months after the bottom was already in.

In summary, a Net Short Futures position of 2.2%-2.4% of Open Interest didn’t have much historical significance for the most part. Overall, current positioning isn’t even close to the Bearishness seen at most big market lows of the last 20+ years. Compare the current levels to the [blue dots] – on average, Major lows were formed with Net Shorts at 5-10% of Open Interest – far bigger than the figures today. And addressing the “elephant in the room” – Specs were correctly Net Short throughout the entire 2008 decline and then turned Long into 4Q08-1Q09 as most of the decline was over.

So don’t put too much weight on a single data point suggesting “Everyone is Short” Equity Futures – especially when the weight of the evidence suggests investors of all stripes are now aggressively positioned in Stocks (and getting more so with each passing day). Hedge Funds & CTAs are the only groups still underinvested/neutral, but even they could change very quickly, in a flat market (which has happened before). The powder isn’t as dry as many seem to think here.

Keep a close eye on what the next few weeks bring. I believe markets could enter a window of critical importance, so it will be important to focus on the key signals as they come together. As before, I’ll share them here and on Twitter as they develop — so stay tuned.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

Fifteen Charts That Changed the World

I guarantee even the hardest trading veterans have never seen some of these charts before.

It’s possible we may never see some of these again.

*hat tip @WaterMartyr for noting the LT 0.382 level

Have a great weekend and stay safe.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

Bet on Humanity

This report is a follow-up to my February 21 and February 28 reports which can be read here and here. For those who started following my work recently, I recommend reading those reports in order to better understand how we got here.

Standard disclaimer for new readers, please note: email replies containing charts, market history and thoughtful analysis are always welcome. Any material discussing current events or theories of how the world should work will be spam-filtered and not read. Also a warning: anyone sending inappropriate or disrespectful feedback will be permanently blocked. Lastly, (1) anyone who fails to understand the time frames being discussed in this report should stop reading (and shouldn’t be trading in the first place) and (2) anyone who trades based on any information contained herein is fully responsible for their own decisions.

SUMMARY

  • This is now the fastest, most compressed 20-25% drop from all-time highs in U.S. Stock Market market history.
  • Extreme and historic oversold signals are being generated across nearly all core datasets I run & monitor – many signals now match and some even exceed the most extreme Selling Panics in nearly a century of Stock Market history.
  • Based on prior historic signals, there is a chance (no guarantee) markets bottom and reverse in the next few days (possibly even today, per critical chart levels being tested which might trigger a reaction) – but as always, need to monitor for price to confirm the turn.
  • Despite the global carnage, leading U.S. Stocks (particularly Big Tech, Semis and Software) have held relatively well and against all odds, and their continued leadership will be key if markets have any chance to repair the damage and re-establish the foundation for a recovery rally.
  • In my personal view, the panic narrative has now reached unsustainable levels, the combination of incremental positive news in China/Asia and global coordinated government, civilian and private sector response is converging extremely rapidly, and any marginal improvement in U.S. communications (currently and deservedly valued at zero) could be enough to trigger a historic rally that recovers base case 62% of the full decline to date.
  • Such a retracement could represent one of the sharpest 15-20% recovery rallies of all time. Again, no guarantees.
  • Monitor day by day for a potential major reaction with high priority.

This is where the S&P stands in the overnight session:

The overnight low so far was 2589.50 (ESM0)

The 50% retracement of the 2016-2020 rally is 2600

The blue channel support is 2620.75

ZOOM: A PERFECT ABC PROJECTION FROM THE HIGH IS 2586.75 (three points under the overnight low)

For students of market history, here are some of the other historic EQUAL-LEG DECLINES I experienced, and traded, in real-time:

For students of market history, there are countless others and not enough room or time to show them all here today. For instance the last two drops of the 2008 Bear Market. Or the May 2019 correction. History will determine if this will be another awe-inspiring example of market symmetry. Humans may be disorderly and irrational, but markets are fabulously precise (for the few who choose to listen).

Further, S&P futures also touched the 200-WEEK moving average in the overnight session:

COMPLETE HISTORY 1931-2020: S&P 200WMA tests after making an all-time high

(Note: the start of the 200wma calculation was in 1931)

1957

1962

1966 AND 1968

1969

1973

1982

1987

1990

2001

2008

2018

Two cases almost fit the requirements and warrant inclusion:

2011 (did not start from an all-time high, but bottomed at 200wma)

2016 (started from all-time high but never reached the 200wma, bottoming slightly higher)

Panic is everywhere. For instance, here are Global Emerging Markets Flows – with a new all-time record selling panic. Worse than 2008 when the world nearly ended. Worse than the 2011 EU Crash. Worse than the 2013 EM/Commodities/Bond Crash. Worse than the 2016 EM/Oil Crash. Anyone who says this panic is different (1) wasn’t around before this, or (2) didn’t learn anything from history.

Real life is scary right now. But it’s not hopeless. There are things we can do to protect ourselves and our families, to at the very least significantly reduce our exposure to the spreading risks. This is also true in markets, where the noise level is off the charts. Currently, consisting of a toxic barrage of infinite negative extrapolation – and the usual cheap marketers touting their one-hit-wonder “Short calls” and selling subscriptions to the “coming crash”.

This is just like the euphoric highs in February but in reverse, and I’ll pass. There is still room to bet on humanity, even though we don’t behave very well in large groups. There are still those who can think individually and rationally, and it won’t take much to turn things around and get us through this. At the extreme highs and lows, I will always believe that calm and reason will ultimately prevail. I’ll always bet on humanity, even though human nature never changes.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

A Historic Week For Stocks

This report is a follow-up to my February 21 report which can be read here. For those who started following my work recently, I recommend reading that report in order to better understand how we got here.

Also for new readers, please note: email replies containing charts, market history and thoughtful analysis are always welcome. Any other material discussing current events or theories of how the world should work will be spam-filtered and not read. Also a warning: anyone sending inappropriate or disrespectful feedback will also be permanently blocked. Lastly, (1) anyone who fails to understand the time frames being discussed in this report should stop reading (and shouldn’t be trading in the first place) and (2) anyone who trades based on any information contained herein is fully responsible for their own decisions.

SUMMARY

  • One of the steepest 1-week market plunges of all time could be nearly over – Nasdaq futures even briefly exceeded the worst 1-week loss in October 2008, the core of a historic Bear market.
  • Extreme and historic oversold signals are being generated across nearly all core datasets I run & monitor.
  • Based on prior historic signals, there is a chance (no guarantee) markets bottom and reverse very soon – need to monitor for price reversals to confirm the turn.
  • The subsequent rally could very quickly retrace at least half of the decline within a very short period. Again, no guarantees.
  • How the leading Stocks (particularly broad Tech) behave over the next several weeks will be key for the market to repair the damage and re-establish the foundation for a bigger rally into potentially Q2-Q3.

A HISTORIC WEEK FOR STOCKS

My Core Models are all max oversold. Below is one of the most important ones, for reference.

Stock sentiment is in full capitulation. My report last week compared the extreme overbought Weekly RSI signals to January 2018 among other dates. This week’s collapse is tracking almost exactly to the February 2018 decline (and a few others) – suggesting the same dynamics in play. Visible in the chart, NDX daily sentiment DSI hit 10 on February 8 2018 (which was a Thursday) and bottomed the next day (a Friday) with a hammer just above its 200dma (never touched). As of the time of writing, NQ futures touched the 200dma in the overnight session – monitor the cash session behavior – it will be critical.

The Stock/Bond ratio hit an 18 RSI in the overnight session. This is an extremely powerful and historic signal – see the next charts.

Below are the five priors – ALL marked initial bottoms that led to immediate and massive oversold rallies – which then retested the lows as part of a bottoming pattern – sometimes with higher prices, sometimes slightly lower, and in one case there was no retest:

EXTREME NEGATIVE BREADTH

S&P 80% of Stocks are below their Bollinger band. Only three dates ever went lower: August 4 2011, August 8 2011 (bottom), August 24 2015 (bottom).

S&P 0.59% of Stocks are above their 10dma. Other than 2008, this happened only during the 2010 Flash Crash, August/November 2011 collapse, August 2015 collapse, February 2018 collapse, and December 2018 collapse. Some spikes marked the exact bottom (but most notably in 2008, the market kept crashing).

S&P 1.58% of Stocks are above their 20dma. Same dates as the prior chart with a new one added – July 23 2002, the first of two bottoms in a massive 8-month base that ended the Bear market.

S&P 6.94% of Stocks are above their 50dma. Again many of the same prior dates pop up, but some important new dates as well: the initial stages of the 1990 Bear market bottom (market needed more time to bottom), the September 2001 bottom, October 2002 bottom, August 2007 bottom, January 2008 bottom, March 2009 bottom and January 2016 bottom. Even in Bear markets this led to some immediate and extremely sharp rallies.

S&P 62.77% of Stocks have oversold RSIs. Priors: August 23 1990 (market went lower and formed a base over several months), September 20-21 2001 (bottomed on the 21st), July 22-23 2002 (bottomed on the 23rd), October 9-10 2008 (minor bottom on the 10th – then continued to collapse another month), August 4 2011 (bottomed two days later), August 8 2011 (bottom), August 25 2015 (bottom), December 24 2018 (bottom).

S&P 5-Day A/D Breadth is 11.45%, the second-lowest reading since 1990. More oversold than any week in 2008. Only the August 24 2015 shock decline was worse than this (market bottomed the next day).

EXTREME VOLATILITY

The VIX curve is historically backwardated (as of yesterday’s close) by more than 30%, in the top 16 days since 2002. Prior dates were: July 22-23 2002 (bottom), October 6-24 2008 (crash), August 24 2015 (bottom), February 5 2018 (bottom). If this is NOT 2008, then there is a chance for an immediate bottom to form per the other dates. Again no guarantees.

As of the time of writing the VIX itself traded at 47.15 in the overnight session, one of the highest levels ever recorded. Prior dates were: October 28 1997 (bottom), September 11 1998 (after the bottom), October 8 1998 (bottom), September 21 2001 (bottom), July 24 2002 (bottom), October 2008-March 2009 (crash), May 21 2010 (initial bottom in bigger base), October 8-9 2011 (bottom), August 24 2015 (bottom), February 6 2018 (bottomed 3 days later).

Also yesterday, VIX closed 6 points above EEM VIX for only the third time since 2011 (data start). The other two dates were February 5 2018 (bottomed 3 days later) and December 24 2018 (bottom). U.S. Stocks, which until last week were seen as the only safe haven, are being used as a source of funds and liquidated.

EXTREME MARKET VOLUME

Records are being approached or completely shattered in ETF Volumes, Futures Volumes and Put Volumes – in most major Indexes, Futures and ETFs. This is a classic sign of a washout capitulation.

One example is the Net Put-Call Volume in the S&P seen below. The only two other dates that matched this extreme bearishness were August 2015 and February 2018, both exact bottoms.

EXTREME DELEVERAGING

Target Volatility Funds have almost completely delevered into yesterday’s close and dropped Equity exposure to levels close to where the market bottomed in 7 out of 8 cases over the past eight years (the exception was 4Q18 which led to a longer decline, which ultimately was fully recovered in a historic V-shaped rally). [Note this dataset is a model-driven approximation that has been a useful gauge in the past. It is not based on actual reported positioning.]

SUMMARY

After comparable historic moves, over a medium-term time horizon most prior cases led to Stocks finishing their decline almost immediately, then rallying sharply (roughly 0.500-0.618) within a larger bottoming pattern that took weeks/months. This is also consistent with the analysis presented in last week’s report, regarding initial declines from extreme momentum highs. The exceptions, primarily in 2008, led to catastrophic losses for traders who bought early.

Because of the extreme risks, it goes without saying that all readers need to evaluate this data individually within their own risk tolerance & long-term objectives, and then decide what makes sense for them. Nothing contained here is an investment recommendation.

But there is ONE suggestion that is appropriate here, and always worth a reminder: turn off the noise.

Here are some of today’s cover stories, screaming for your precious attention – as if we didn’t already have enough problems to deal with:

And here is the noise level on Twitter – at a new all-time record – worst of all, not a single prior spike meant anything for Stocks. Most turned out to be fairly decent opportunities to think differently and take a longer-term view.

Turn it all off.

CLOSING THOUGHTS

These were some of the hardest days I’ve ever seen in more than 25 years in markets.

I hope everyone is safe and most importantly, know that life is going to get better.

I wish everyone good luck, a nice weekend, and that this may all become a distant memory – making the world stronger and more prepared than ever before.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

Forever and a Day (in Stocks)

Something truly rare is happening in markets.

This is the biggest report I’ve written since November, maybe the biggest I’ll write this year. There are no memes here. There are no bite-sized “takeaways” or “market calls”. Traders should take the time to carefully study what I’m sharing, then actively monitor the charts on their own going forward, and decide for themselves if any of this is important. Most charts in this report are in WEEKLY time frame. The data won’t change if markets trade down this morning and rally in the afternoon. The picture won’t change if a hot microcap Stock is up 80% tomorrow. These charts and their key message has been developing for months (and years) and won’t change overnight. Those who fail to understand time frames should stop reading (and shouldn’t be trading in the first place).

This post is for traders and students of market history. This means two things: (1) Readers with similar interests are always welcome/encouraged to write back and share technical charts with any interesting idea. (2) Anyone looking to talk about the Fed, politics, liquidity, epidemics, inequality, 1929, debt, please don’t bother sending comments (they will be spam-filtered and not read).

Before we begin, I’ll reiterate what I wrote in my last post a month ago:

For those who started following my work recently, you should know that I spent most of 2019 reiterating my extremely Bullish case for Global Equities, including a cyclical resurgence theme led by Semis, Tech, Banks and Industrials. For medium-term investors who don’t care much about short-term 1-2 month swings, I should add that my view is that 2020 as a whole should be favorable for Equities. Having said that, I am not a long-term investor – and if you’re like me, an Equity & Macro trader that cares very much if the S&P moves 5-10% against me, then what we have right now is a potential big problem brewing.

In that January post, I showed the extreme complacency building in options markets, and wrote:

If history is a guide, the risk-reward over the next 1-2 months is moving towards “extremely poor”, and we shouldn’t rule out a compressed (front-loaded) decline either. All that’s needed is a “catalyst”, as always just a narrative/excuse to trigger deleveraging.

Maybe Stocks will continue to grind a few points higher, generating even more extreme signals in the coming weeks. Personally, I don’t think the odds favor such an outcome – instability is rising significantly and there’s enough pressure accumulating that anything could trigger the start of a corrective phase into later Q1.

Also in January, I shared several charts on my Twitter page specifically highlighting my concern for extreme euphoria in Emerging Markets and extreme bearishness on the Dollar. Below are two of them, and those who want to read further are encouraged to look through my other tweets from that period.

From January 15: “Emerging Markets. Looking for signs of excess in Stocks? Here’s one: This rally has seen +150k $EEM Calls purchased over Puts. The last time this happened was… never. EM traders have gone from “Sell everything” to Buying 3X the prior record in just a few months. That’s alot.”

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From January 13: “Dollar. Positioning getting extremely lopsided – and could soon become a contrarian Buy. Even more important, the highly sophisticated FX Dealers are quietly amassing one of the largest Long USD positions ever. History suggests not to fade them, especially with Vol this low.”

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It’s been six weeks since then – what has happened? The biggest consensus trades from late 2019/early 2020 – sell Dollar, buy Cyclicals/China/EM – have all been challenged or completely run over. Most markets experienced significant drawdowns and many still haven’t recovered:

Five out of the seven main S&P cyclical Sectors have barely made any gains or are down since their January highs (Comm Services, Energy, Financials, Industrials, Materials). The Dow Jones Industrial Average, the Dow Transports and the Russell 2000 are all flat/down as well. Even the mighty SOX, the LEADER of last year’s cyclical resurgence (and my #1 most Bullish view for 2H19), has stopped going up. Most international markets topped in January and never recovered, some haven’t made any progress in almost two months – and including FX returns, things are even worse.

This may feel like a great market if you’re a U.S.-based growth stock trader or reddit options yoloer going all-in, but in the real world where real asset allocation decisions are made, losses are stretching out far and wide.

In normal times, these past weeks should have been enough to reset some of the froth that had accumulated in certain markets. But a new consensus trade has emerged since then, and has become more crowded than anything that came before it.

TECH OR NOTHING

Below, the NDX weekly RSI rose above 81 in late January, and again above 80 this week. This is among the TOP 23 weeks since inception of the index, a period of 1,815 weeks (35 years). This means it’s a TOP 1.3% event (98.7 percentile). Extremely rare.

Here is a history of the priors note that I’m marking the PEAK RSI value in each case. This is extremely important because as of the time of writing, NDX is threatening to close the week with another POTENTIAL confirmed turn down in the weekly RSI in other words, another potential peak may be forming this week.

NDX weekly RSI peaks 1985-1995

NDX weekly RSI peaks 1995-2002

Last but not least, the *only* extreme NDX RSI since 2000 – in January 2018:

But it gets even worse.

Below is an updated version of the chart I shared February 10 on Twitter:

The NDX/SPX ratio weekly RSI is in the TOP 11 weeks of all time. Over a period of 1,815 weeks (35 years), this means it’s a TOP 0.6% event (99.4 percentile). Similar to the prior charts, nearly all extreme overbought cases led to immediate relative & absolute losses – the only major exception was the Y2K Bubble, which extended higher only to collapse disastrously. Overall this doesn’t make it any less concerning.

To be clear, I don’t think we’re in a Bubble (yet) and I’m not saying a Bear market is coming. Time frames matter. History strongly suggests a sharp and violent shakeout is a reasonable base case over the next few weeks/months, in order to clear weak hands and eventually continue an even-more-parabolic ascent. Again this is extremely important because as of the time of writing, the NDX/S&P ratio is also threatening to close the week with another POTENTIAL confirmed turn down in the weekly RSI in other words, another potential peak.

Unfortunately it gets even worse.

Something truly rare is happening in markets.

This is an updated version of the chart I shared February 10/18 on Twitter:

The Tech/SPX ratio weekly RSI just made a new ALL-TIME intraweek record (30 years). History being made – it’s never done this before. This prompted me to write the following earlier this week: “Tech has been invulnerable to bad news. A sharp repricing may seem impossible – mean-reversion could make it inevitable.”

Again, similar to the prior charts, most prior cases led to immediate relative & absolute losses. There were two minor exceptions in 2017, which still led to losses, albeit much smaller.

One important addendum before we continue:

Beware of spreadsheet traders with hidden agendas, who will invariably run these momentum signals and say that “on average, markets didn’t fall that much X days after”. Or the usual quip that there’s not enough historical signals to be robust. Or that past extremes are meaningless in today’s markets. These are largely inexperienced analysts (not traders), usually with an emotional need to be right, and think that running a linear regression qualifies as understanding how markets work. Markets aren’t linear (especially at the extremes), don’t trade in fixed time intervals, and certainly don’t follow average returns. Which is why I’ve hand-written all the prior cases in each chart. There is no debating the forward path of each prior signal, each case is clearly illustrated. Spreadsheet traders offer a lot of average stats (useless) but have very little in-depth understanding of historical Stock movements, because tables will never be substitutes for an actual inspection of the chart. Regardless of what happens next, historic cases led to significant losses with extremely negative skew, and any table showing average returns “weren’t that bad” is at best uninformed/lazy, or intentionally misleading. One can torture the data all they want, but they can’t change the chart. That price line is set in stone.

In summary, Markets trend strongly and should be respected, but they also *mean-revert spectacularly*, especially in the 1% of cases where Momentum gets historically extreme. Just be aware of this risk, even if the consensus seems to be completely ignoring it. Awareness is the first step to being prepared for a change in markets, should it come around.

Related, any permabull making an aggressive bet on another benign outcome, is just as irresponsible as permabears who have fought this rally for years. And there seems to be a growing number of the former:

A Bloomberg article last week (“Frenzied Speculators Propel Surge in Options Trading”) stated that:

Volumes for contracts tied to single stocks have surged in the past six weeks to all time high levels, according to Goldman Sachs. The growth has been so staggering that trading in the derivatives by notional value is almost on par with volumes in the underlying shares themselves. Spurring the growth are bullish wagers on Tesla, as well as mega caps that wield heft in the S&P 500 Index unseen for 20 years (Amazon, Apple, Alphabet and Microsoft).

It’s not just Option Volumes, but Skews are also being pushed to previously unimaginable heights: Call Skews in a number of key Stocks exploded higher last week – some hit the highest in data history (15 years). The prior record spikes were just before the major top in January 2018. Meanwhile flows into some Megacap Tech and Growth ETFs hit record highs over the last few weeks. Rampant speculation is in full display.

UNDER THE SURFACE, BREADTH IS NOT OK

Breadth may be one of the most misunderstood indicators out there. Rather than go into an extended discussion, or show the dozens of Markets/Sectors/Regions that have already peaked, I’ll just submit the following:

NYSE Breadth has been below 50% for almost a month now, even while the index hovers near the highs. This index contains 1,884 issues and is fairly representative of the broad market, including many Stocks that some people may not consider “American”. In that case, I submit the second chart below, showing the Nasdaq Composite which contains 2,709 issues and is even weaker than the NYSE Composite. Breadth is not good. It doesn’t mean the market has to collapse, but there’s enough vulnerability where any minor decline could be enough to trigger a significant downtrend.

ASSESSMENT OF GLOBAL MARKETS

Speaking for myself personally, this doesn’t read like a healthy environment where taking extreme risks is likely to be rewarded.

U.S. Ten-Year Yield is in full collapse. Can Stocks continue to float away if Yields breach the 2019 lows? At what point does this trigger a sentiment reaction?

U.S. Ten-Year Yield (continued). Here is the weekly chart:

AUDUSD weekly. Same question: what happens if this continues to trend lower for a few months?

Even in the U.S., the Dow essentially topped in January at log-channel resistance, with a magazine cover no less.

NDX managed to extend +4.8% from its January highs, only to test log-channel resistance, trigger historic RSI extremes as shown earlier, then yesterday right on cue came this magazine cover:

But it’s well beyond the cute magazine covers, and risk looks quite real:

Currency Volatility is rolling up from multi-decade lows.

The MSCI EM Currency Index topped in January and after a small failed bounce is beginning to collapse again.

Similarly, EEM made a failed breakout in January, and then a failed bounce to horizontal resistance in February, and now the daily trend is potentially turning down in full force.

Now look at USDCNH showing WEEKLY trend initiation, after BASING at the old highs for months. This may be one of the most important charts in the world right now, because of its enormous potential impact on cross-asset Volatility.

In summary, FX Volatility is rising from multi-decade lows. The Dollar is just beginning to initiate uptrends, accelerating from huge bases against most Major & EM Currencies (if I put all the charts here, I’d never finish this report).

Meanwhile all the various Global Equity Regions, Indexes and Sectors remain completely fractured, having topped 1-2 months ago. Bonds are rallying, Commodity/Cyclical Currencies are falling sharply, all hinting at a sharp deflationary backdrop. In this environment, what do you think is going to win out? Do all these forces now repair themselves and Tech continues to rally unabated? Does Tech just get “overboughter”?

VOLATILITY PRESSURE

VIX daily. Take a look at the massive, picture-perfect base forming here. Along with Daily cross up yesterday. The VIX bottomed in November, this isn’t an overnight thing. It takes months to build this kind of structure, with this potential energy – Forever and a Day. Like I said earlier, this isn’t going to change if Stocks fall in the morning and rally in the afternoon, or what Call options are being pumped today. There is something far bigger at stake here, and most traders are blissfully unaware. A number of Volatility charts looks like this. It’s not an isolated event, it’s widespread.

The VXN daily chart deserves a special mention. Look at the perfect stair-stepping pattern developing, and the base almost fully complete. Again, anyone who trades for a living will understand that this isn’t a CALL for anything to happen. All it says is IF Stocks are ready to start moving lower in the next few weeks, with Volatility exploding higher, this is pretty much a picture-perfect location where that behavior could start.

WHERE DO WE GO FROM HERE?

The story is still being written and there’s no way to know in advance. Anyone looking for absolute truths is in the wrong business. This is trading, where edges matter and risk control is everything.

All we know from history is:

  • Comparable historic weekly momentum led to extremely sharp, violent shakeouts in Tech in particular.
  • Corrections lasted weeks or even months, oftentimes the first leg down was the most violent, a common trait with extreme momentum signals. I encourage everyone to study the individual RSI signal dates showed earlier, and see (1) Which ones topped in January-February after Stocks ran up 10-15% the first weeks of the year (for instance 2018), (2) Where did Stocks correct on a chart basis (what was the prior support), (3) Did markets trade NEGATIVE for the year at any point after that? (4) How high did realized & implied Volatility go? (5) Perhaps most important of all, how much did Tech & NDX fall vs the broad S&P and Dow (what was the Beta)?

I hope this has been a helpful glimpse at markets from a slightly different perspective than what you may have seen elsewhere.

Markets appear unstable here. Very little is needed to unleash pent-up Volatility pressure. Relative factor Volatility and correlations could also rise, but in my view the biggest risk is a violent deleveraging of crowded consensus which has become deeply entrenched in U.S. markets and particularly Tech Stocks. I firmly believe that IF such a scenario materializes, it may present a unique opportunity to Buy growth Stocks in a moment of broad panic perhaps in the next few weeks or months.

Things may look easy now but it’s never easy inside the arena. Being concerned about markets here feels extremely difficult, even with overwhelming evidence suggesting problems are becoming too big to ignore. Time slows to a halt, watching the excesses accumulating for weeks and then converging onto a single point in time. It takes forever for a turn to materialize. And then it takes just one single day – and then everything changes.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

Extreme & Historic Complacency Building in Markets

Today is almost exactly two months since I last posted on this blog.

On November 8 2019, I consolidated over a dozen charts into a report, from hundreds of charts I had shared on Twitter over the course of 2019. Then I wrote a comprehensive review showing overwhelming evidence Stocks were accelerating higher from massive 2-year bases (see: The True Message of the Market (and Thinking for Yourself)).

For those who started following my work recently, you should know that I spent most of 2019 reiterating my extremely Bullish case for Global Equities, including a cyclical resurgence theme led by Semis, Tech, Banks and Industrials.

Yet even though Stocks were up a lot last year, being Bullish was never an “easy” trade to make. In fact until the very end of 2019 – even as Stocks began to break out in October and November, the cesspool of Twitter permabears kept reminding me daily they were going to “take the other side” of my trade. They were absolutely certain of the Bear case, they were not listening to the market, and they got destroyed.

For medium-term investors who don’t care much about short-term 1-2 month swings, I should add that my view is that 2020 as a whole should be favorable for Equities – even more so if we think of relative performance versus Bonds & Defensive assets. There are several reasons why I think this, the two most important ones being: (1) supportive Central Banks (for now) and (2) Credit markets unlikely to have major problems until 2021-2023, especially if Rates remain where they are now.

Having said that, I am not a long-term investor – and if you’re like me, an Equity & Macro trader that cares very much if the S&P moves 5-10% against me, then what we have right now is a potential big problem brewing.

Over the past several weeks, I have begun writing my biggest report since November, which is still in progress and if markets continue to grind higher, they’ll likely generate some of the most extreme chart signals in history.

It’s already happening in the Options markets, where extreme & historic complacency is now in full display:

Above, the 50-day Put/Call Ratio (inverted) has dropped to 0.56, among the most extreme overbought readings in 20 years. Remember this is the same indicator I discussed in November – when people were pointing to a 1-day overbought Put/Call reading and saying markets were euphoric. They weren’t. But now they certainly look that way.

ZOOM 2001-2005:
JUN 2001 Bear Market rally topped and rolled over (not applicable to today)
JAN 2004 Topped 1% higher then corrected -9% over the next six months
JUL 2005 Topped less than 1% higher then corrected -6% over the next two months

ZOOM 2009-2020:
APR 2010 Topped 1% higher then corrected -17% over the next two months
DEC 2010 Market ignored the signal, extended +7% in two months, then gave it all back in one month, then spent four months topping and fell -22% (for traders, this was the only signal that failed in 20 years)
DEC 2013 Topped less than 1% higher then corrected -6% in one month
JUL 2014 Topped less than 1% higher then corrected -4% in two weeks, rallied back to the highs then dropped -10% in one month
JAN 2018 Market had already topped, corrected a total -12% in two weeks

If history is a guide, the risk-reward over the next 1-2 months is moving towards “extremely poor”, and we shouldn’t rule out a compressed (front-loaded) decline either. All that’s needed is a “catalyst”, as always just a narrative/excuse to trigger deleveraging.

My goal for the next few weeks is to finish my next comprehensive chart review and post it here on the Blog. What I can already say is – the data picture has swung almost completely since November. Maybe Stocks will continue to grind a few points higher, generating even more extreme signals in the coming weeks. Personally, I don’t think the odds favor such an outcome – instability is rising significantly and there’s enough pressure accumulating that anything could trigger the start of a corrective phase into later Q1.

Right now, I believe that traders who are able to identify such a corrective phase when it begins, and are able to take steps to protect capital and then monitor for Long entry on the other side, have the chance to make this Q1 period potentially the most important allocation decision of the year. This is where I’ll be focusing all my attention in coming weeks – back with more soon.

Thanks for reading.

If you liked this post, please share it with colleagues, subscribe to the Blog to receive future updates, and follow me on Twitter for daily charts: @MacroCharts.

The True Message of the Market (and Thinking for Yourself)

This report is a major update on what’s happening in global Equities, including what I’ve shared over the past several weeks and extending it even further.

Before we begin, I want to address what I think is the biggest problem facing investors and traders today: the constant daily barrage of permabears and nitpickers fighting the market.

The first group needs no introduction. The permabears are a known breed with notoriously short lifespans. Virtually all of them blow up and become bloggers (except those that never traded real money to begin with). Sadly that’s just the start of their mission to destroy themselves and others, as they begin to prey on unfortunate folks by luring them with n=2 “this (completely useless) indicator also happened in 2000/2007 so the world is ending” charts. You can spot them a mile away, because they tell you how bearish they are, every single day.

But there is another toxic breed of pundits that provide even LESS value: the nitpickers. They’re just as easy to spot, because they exhibit several common behaviors: snarky tweets, clever soundbites, short sentences heavy on sarcasm and zero data. Sometimes, claiming a data point is “the highest since [not very long ago]” with no analysis included (for a reason). They’re successful at presenting themselves as analysts/strategists, but ultimately they’re just as toxic. Why? Because they don’t have a system, don’t have a process, are not real market practitioners, have no real understanding of how to actually trade or invest in markets, and their sole job is to feed you noise and distract you from what’s really happening.

Let me show you what’s really happening, and how important this is.

On October 28, I shared the following charts on Twitter and wrote: “Japan and Europe showing massive strength – previously observed at the start of every Major Cyclical Bull Market in the last 20 years. In the context of historic outflows, LT Momentum confirming up and Cyclicals already leading – truly a sight to behold.”

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What does it mean to say “Long-Term momentum is turning up”?

From my last report published here on Sep 19: “If this historic base is complete, could we soon enter the steepest part of the price advance? This would be compatible with a market that has been totally abandoned by investors and beginning to show historic Thrust behavior.”

The Japanese market itself had already been suggesting this Bullish potential for almost two years, while it based at the old multi-decade horizontal tops line. Most important of all, price and breadth are now confirming each other in a historic way. The market is telling us to focus on the big picture.

It’s happening everywhere, as I also mentioned in that September report when markets began to exhibit historic thrust behavior.

Further, on October 29 I shared this chart: “I consider this the most important chart in the world right now. The Stock/Bond Ratio is breaking out of a massive 2-year compression, confirming the SPX breakout. Trend momentum is just beginning to expand – a potential major & historic rally getting started.”

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Here’s what the Stock/Bond Ratio looks like now again the market is telling us to focus on the big picture.

Here is a version of the Stock/Bond Ratio using the Nasdaq index look at the clear strength as it’s almost at a new multi-year high:

Related to this, on October 30 I shared this chart: “Here’s why the Stock/Bond Ratio is so critical: One version using NDX is the strongest of all. Most people said they “disagree with the chart”/”take the opposite side” – in the long run, this is the fastest way to the poor house. Never argue with the market.”

Here is what fighting the market looks like, at similar points in the past when Stocks were exhibiting similar strength:

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On Nov 4, I shared the following: “Here’s the problem for those still trying to fade every uptick in this rally: Remember the massive Weekly compressions – NDX bandwidth was at bottom 5% of its history. The bands are now expanding with rising prices. Further, LT momentum has also turned up. Pure energy.”

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Finally, a chart I shared on Nov 1: “I consider the Stock/Bond Ratio the most important chart in the world – here’s another reason why: Relentless selling & pessimism identical to the end of the last 3 global crises. This is how Stocks began major rallies, breaking out with few believers. “Wall St never changes”.”

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Here’s what the chart looks like now, breaking out with flows just starting to turn up from a historic capitulation:

Again it’s important to emphasize: what’s actually happening, what are the implications, and what is the time frame?

Instead of reflecting on these meaningful questions, here’s what Twitter’s nitpickers decided to say:

(1) “The market went up but not enough Stocks are making new highs”. I wrote this before and it’s worth repeating: the nitpickers don’t tell you that new Lows are zero (globally), and the MSCI World Index is doing just fine up 20% YTD with 52Wk Highs in the single digits most of the year. Also, if the market keeps pushing any higher, New Highs will go into full expansion mode. And that’s exactly what’s happening, as 52Wk Highs are expanding into double-digits just like in 2016 when markets last broke out of a 2-year consolidation. Any more upside and the expansion could go into full gear.

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(2) “The Put/Call Ratio is really low and the last time was January 2018.” This isn’t even worth showing a chart, it’s just more ridiculous noise. There were hundreds of times throughout history that the P/C Ratio was very low. Many of them occurred just as Stocks were launching into some of the biggest rallies ever, such as March 2009, August 2010, November 2012 (breakout rally), December 2016 (breakout rally). Again, what carries more weight? A single day of options buying activity or the trillions of dollars that need to chase Stocks and cut Bonds as the Stock/Bond Ratio breaks out of a historic consolidation?

To illustrate, here’s the 50-day moving average of the Put/Call Ratio (inverted) that’s supposedly euphoric. A week ago I said that maybe the true contrarian & objective view is to focus on the big picture – and ignore those fading every daily tick. Turn off the noise.

(3) “But Sentiment survey X is high and it’s impossible for Stocks to keep going.” Wrong. High initial sentiment was also a feature of the launch phase of every major rally in history (see chart below from NDR, with my annotations included). Other features include positive long-term momentum, breadth thrusts, extreme pessimism & outflows, all of which are present today thanks to the permas and nitpickers.

(4) Another one making the rounds: “AAII bullish sentiment 4W change was the highest in 2 years!” This fits the classic nitpicker style, ‘the highest since X’ with no analysis included (for a reason).

Below, the majority of historical sentiment spikes were associated with Stocks either launching a major Bull market rally, or an epic Bear market rally within a bigger downtrend. Even in 2000 and 2008.

Finally, it’s important to remember: there will be endless noise in the next weeks and months, claiming the next intraday data point is really bearish. There’s always something. But as I noted in every chart here, and in hundreds of tweets over the last months, the medium and long-term signals are still in a deep, historic panic. For instance, here is a chart from Oct 18, showing the 6-month average of AAII Bulls. The chart is from three weeks ago. Today, that moving average is at 29.61 (still falling). And yet people are going around parading the “4-week change”.

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Finishing this report with a positive message:

BE YOURSELF

Even though I believe there’s significant evidence suggesting we’re in a Major and potentially Historic global rally, Stocks don’t move in a straight line and usually pull back/consolidate regularly. Also from experience, I think Stocks probably won’t drop a whole lot if millions of people are nitpicking the latest intraday datapoint and completely ignoring the big picture.

More than ever, markets are littered with people looking to distract you with answers to questions that don’t matter.

Do you want to see what all those people look like? Here they are, millions of little pixels piling themselves up into towers (just like in that zombie movie) every time the market pulls back. Millions of hours of human potential, now just a line on a chart.

Each pixel is a permabear or nitpicker sending a tweet claiming victory for a 2% pullback or the inevitable correction, along what has been one of the most epic secular Bull markets of all time.

Free yourself from them (if you haven’t already). Erase them from your market research process. Build a system that listens to the market, and the market will quietly show you the answers. Be yourself, think for yourself, and the world will be yours.

Thanks for reading.

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Emerging Markets in a Historic Panic

There’s no other way to describe what’s currently happening in Emerging Markets.

To get everyone up to speed, I will start this post with some charts I shared on Twitter over the last week, and then share some new charts (never seen before), tying everything together at the end and making the case for a major potential opportunity in EM.

In chronological order:

On August 6, 61% of Stocks in the South Korea KOSPI Index hit oversold RSIs. Only two other times in history were more oversold: (1) The four trading days from October 24-29 2008 which included the KOSPI’s exact final bottom of the Bear market (October 27). (2) The only other day, October 29 2018, was the exact day the KOSPI bottomed last year. So far, August 6 was the exact day of the bottom in KOSPI for this year.

Also on August 6, 47.23% of Stocks in the South Korea KOSPI Index made new 52-Week Lows. I shared the below chart on Twitter with the following comments: in nearly 20 years, just ten days had more than 45% of Korean stocks at 52-Week Lows. August 6 was the 9th most oversold day in data history. The most recent spike (2018) led to an +18% rally. The other spikes (2003, 2008, 2011) led to career-making rallies.

On August 13 and 14, a historic 76% of Stocks in the Hong Kong HSI Index (H-Shares) hit oversold RSIs. This was one of the most negative extremes ever. Incredibly, H-Shares were nearly as oversold as their 2008 lows. Including last week, in the last 18 years just seven total days had more than 75% of H-Shares with Oversold RSIsLast Tuesday and Wednesday were the #5 and #6 most oversold days in history. After those spikes, a common pattern was for the market to spend some weeks forming a base, eventually transitioning to a multi-month rally. So far, August 14 was the closing low in the H-Shares index.

Now let’s look at some NEW charts that I researched and saved specifically for this report today:

My Emerging Markets Intermediate Breadth Oscillator is extremely compressed. Similar to the prior charts, this indicator shows the net amount of EM Stocks declining has reached nearly historic oversold levels. In most prior cases, this created a “ball held underwater” situation where EM Stocks ultimately responded with an extremely sharp rally. In some cases, a historic rally.

EEM ETF. Here too, we are witnessing history being made. This is the most liquid, most popular EM ETF in the world. And its NAV discount has reached one of biggest extremes of all time, indicating EM traders want to “sell at any price”This panic condition has produced some of the biggest bottoms in history, including the exact 2008 low, which was just barely more extreme than today.

My EM Core Trend Model is at major oversold Buy levels, already below the region where all EM bottoms formed since 2009. It’s important to mention that risk remains elevated while the model is still declining. Still, I’m looking for a turn up in the model to provide a clue that an important bottom has been made. The oversold conditions are so broad and historic, it’s possible that EM (particularly H-Shares and KOSPI) are bottoming before U.S. Markets. Hold that thought for now and I’ll talk more about this later.

As would be expected from a panic of this magnitude, the outflows have also been proportionally historic:

EEM Net Flows. Widespread selling should lay the groundwork for a bigger recovery later this year, as funds are forced to chase the recovery. Any residual price declines from here would likely make the capitulation even more extreme.

EWH Net Flows. Massive & historic outflows, second largest on record. Since this ETF’s inception 23+ years ago, the record outflow was back in 2013 during the Chinese bank liquidity crisis, when overnight SHIBOR spiked. Social mood and panic may be approaching similar proportions.

MCHI Net Flows. Biggest panic on record.

IEMG Net Flows. First outflows ever.

Next is a chart overlay of the H-Shares Index with USDHKD Risk Reversals. This shows that a wave of China Bear tourists are betting heavily against the Hong Kong Dollar in the currency options market, highlighted by the extreme and historic spike in Risk Reversal pricing. Historically, similar panics led to major bottoms in H-Shares and huge recovery rallies. I originally shared this chart on Twitter on August 14, with the following added comments: “Hong Kong’s leadership warned last week the city risked sliding into an “abyss”. With social mood and markets in mass capitulation, the bar for a recovery is very low.”

Finally, let’s take a look at two critical price charts I am watching.

HSI weekly chart held the nine-year horizontal shelf and the 200wma, closing last week with a potential Bullish hammer.

Last but not least, note how the EEM chart is potentially tracking for a bottoming scenario. I’ve been updating this scenario in real-time on Twitter over the last few weeks. Note the potential wedge structure in play – which could be missing a final mini-flush lower followed by Bullish reversal. It doesn’t have to play out exactly like this, but overall I think the message is that EM and particularly Asia Equities are close to a turn (and may have already bottomed for the most part).

IN SUMMARY,

Emerging Markets are in a historic panic — particularly Asian Equities which represent the bulk of Global EM market cap.

A major cluster of signals is coming together at this critical time, with the potential to form a historic bottom.

Additionally, since EM has been completely wiped out, it could be bottoming before U.S. Stocks. This happened many times throughout history. (*most famously, in 2001-2002 and 2008-2009). It also happened most recently in December 2018, when EEM made higher lows and continued to form a base while the S&P plunged another -16% in three weeks. I think any residual lows in U.S. markets over the next few weeks would help draw well-developed sideways/basing structures in EEM, EWH, EWY and FXI — setting up a Major Global Equity rally later this year. I believe this theme is so critical to monitor, I will dedicate the next several weeks to track and share everything I’m seeing here and on Twitter — so stay tuned.

Thanks for reading.

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Consensus Lawnmower (2019 edition)

Almost everything investors believed just a few months ago has been cut down:

  • EM & China were among the best places to invest.
  • The Fed was “friendly” and the Dollar would continue to weaken.
  • Equity & Rates Volatility would stay low because the Fed removed tail risks.
  • Commodities were going to make a comeback.

Feels like a long time ago, but these views were widely accepted until very recently.

In Mr. Market’s twisted Yogi Berra irony, 2019 has already been a tale of two halves, except we’re not even halfway yet.

Rolling waves of pain:

  • U.S. Financials & Banks fell sharply in March, and bottomed.
  • U.S. Healthcare & Biotech fell sharply in April, and bottomed.
  • The Dollar has rallied sharply, cutting through every consensus EMFX trade.
  • Like last year, the Dollar is moving in waves. First against the weak current account countries (ended a month ago), then Asia (largely over I believe, and wrote about last week), now migrating to a few select final pockets. Wherever the carry books are still holed up, that’s where the Dollar has unfinished business.
  • Asian Stock markets fell sharply in May, in some of the heaviest selling waves in history. Some markets broke selling records, far greater than even the panic in 2008. I’ve documented this extensively on Twitter and prior blog posts. Yet this week, momentum has been quietly stabilizing.
  • As EM tries to stabilize, U.S. markets continue to decline and look for a bottom. Yesterday, the main EM ETFs were up while U.S. indexes were down almost 1%. U.S. Tech in particular is starting to fall faster than most other areas.
  • U.S. Semiconductors, which rallied 50% from the December lows and triggered historic extremes in late April, have given up more than half their gains and become “ground-zero for trade war risk”. Quietly, they closed up yesterday even as the rest of U.S. Tech was down nearly 1%.
  • Even the U.S. defensive sectors are dropping sharply. Over the last two days, they lost nearly 3% (roughly 2-3x what broad markets fell). When Bears take out the defensives, they are running out of targets (everything else has been eradicated). This happened in December too.

True bottoms are made when the Bears successfully take down all the last pockets of strength. Sellers have relentlessly and systematically purged the haves for nearly two months. Everywhere we look, the haves have turned to have nots: there’s no one left overweight EM, China, Semis, EMFX, or any cyclicals of any kind. Defensives are heavily favored. Bonds are in a panic spike.

Meanwhile, Chinese stocks are quietly stabilizing directly above the support targets I’ve been tracking for several weeks.

Is it possible that China is forming a base ahead of the U.S.? It’s an extremely contrarian scenario. It also happened three years ago in 2016:

History doesn’t have to repeat exactly, but it wouldn’t be the first time EM & China were sold to the bone, only to bottom ahead of the U.S. and lead the recovery.

The destruction of consensus trades came in waves of selling. It works the other way around too. If sentiment is approaching rock bottom, the recovery will also come in waves:

Here is a candidate for the first wave: a key Asian market, stuck in the middle of the trade war, with heavy exposure to the Tech & Semiconductor industry — representing a massive 50% of its stock market capitalization. Essentially this market is uninvestable in the current environment. All of this psychological damage, for a simple gap fill and base on the 200dma.

We’ve already documented the historic outflows from China and everywhere else in EM. So for posterity, here is the wave of selling that just went through the same market from the prior chart (Taiwan):

No one can say with 100% certainty if the bear case is now fully priced in. What we do know is, many highly-exposed markets — most now deemed uninvestable by the same folks who were pounding the bull case just a month ago — have been deleted from investor menus, have stopped falling on bad news, and are now rising even as U.S. markets continue to search for a bottom.

Over the last month, the market wrote a story gradually, as prices came down. Now another story is quietly being told, for those that are listening. A story that will likely carry bullish implications far into the future.

Thanks for reading!

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