Here's a rally that's not supposed to be happening. This one just wasn't in the cards. Sure, day one of a rally after the British revolution made sense. We had just gotten through two of the worst days in ages. Day two made some sense because of some takeovers and a rally in oil.
But today? This one is outrageous in its audacity because so few people believe it should be allowed to take place
Let me explain.
Go back to a week ago today. We had gotten word that the Remain camp was going to win, that there would be no Brexit, that the European Union would be preserved and a house divided was going to stand.
We had a terrific run right into the election, and I remember boarding a plane back to New York from San Francisco with my daughter just before the first returns were in and thinking, "What the heck are we doing taking the redeye back to be sure I was on the desk at Squawk on The Street if everyone thought it was a done deal?"
When we got off the plane I checked in to see what was going on and saw the market indicated down 700 Dow points. The entire market apparatus, from the bookies to many of the pollsters to so many of the hedge funds, were caught leaning the wrong way.
It's natural when a surprise occurs to expect that there would need to be repositioning. Basically, if you bought into the idea that the financial world was going to be torn asunder if Brexit won, then you had to take action, and when so many take action at the same time the stock ramifications can be pretty insane.
That's what we got the first day: insanity, aided by a parade of people who should know better who came on air and in print and on the web and predicted crashes galore.
So it was pretty self-fulfilling and we got a 3.3% drop -- not the end of the world, but a real hammering, especially when you consider that we fell another 1.5% on Monday, again aided by the myriad fear-mongers who warned us that the end was nigh.
We are used to seeing a bounce of what's often thought of as the dead-cat variety, and that's what we got Tuesday when the selling exhausted itself. Again, that's pretty standard behavior as the sellers finish and bargain hunters step in. Plus it was pretty well-scripted: the buyers went back to tried-and-true growth, the FANG Rally -- except it wasn't just Facebook (FB), Amazon (AMZN), Netflix (NFLX) and Alphabet (GOOGL) that rebounded (FB and GOOGL are part of our Action Alerts PLUS portfolio). It also was Broadcom (AVGO), the semiconductor darling, and a couple high-growth retailers. In other words, a bit broader than the usual fatal feline snapback.
But yesterday's rally took quite a few people by surprise. That's because when we have a real big, bad event, as we were told Brexit was, those who haven't sold come in and take advantage of whatever anemic rally we have had and blast out of as many stocks as possible.
Instead, oil rallied, the transports -- so key to a meaningful increase -- took off, led by the pathetic airline stocks, and buyers roared into the banks. The banks! Talk about a trashed sector.
The moves had some underpinnings. A very smart private equity firm agreed to buy an outfit called Diamond Resorts International (DRII), which operates timeshares. One of the most heavily shorted groups in the market is travel and leisure, and many of the short-sellers seemed to double down on their bets instead of taking them off because Brexit seemed synonymous with the potential decline of world travel. And why not? The dollar had shot up. Europe is in disarray. We had just heard from some European outfit called Easy Jet that business had soured badly. The advance seemed inconceivable. Oh, and let's not forget how AirBNB was supposed to be destroying the hotel industry.
The banks? With the European banks still reeling and with interest rates so low, the banks would be hard-pressed to make anything, right? But then, after the close, the Fed blessed the financials for a slew of banks and we got some big buybacks and dividend boosts, so at least we could rationalize why this hated group could be unhated for a day.
Still, though, a two-day rally after a two-day sell-off isn't entirely out of the ordinary. Yes, the scalpers took their gains, but at the end of yesterday's session it looked like the buyers had exhausted themselves and sellers would materialize at today's opening.
After all, it's the end of the quarter, earnings are coming and they most likely are not going to be strong, and the expectations, which is what all future pricing is based on, would be even more dim. How could they be anything but bad? Didn't we just have Brexit?
But then the unexpected occurred today.
First, we got another takeover bid, this time in the entertainment industry: Lions Gate (LGF) buying Starz (STRZA). It's a convoluted deal, but a deal nonetheless. That meant the seemingly one-off nature of the Apollo-Diamond deal might not have been as aberrational as we thought. I mean, didn't Brexit spell the end of confidence to do deals? Didn't we hear that kind of Cassandra talk for three days?
Then we heard of the possibility of Mondelez (MDLZ) buying Hershey (HSY), something that Hershey apparently has rejected out of hand. Still, wow!
Here's a group, the food group, which had been bid up huge as a flight to safety from the horrors of Brexit that typically would have sold off by now. In fact, the group had attracted a flock of shorts who were claiming overvaluation. But what's a short-seller know about valuation if a food company wants to buy another food company at an outrageous price?
I don't care if Hershey rejected the bid. Here's what matters: For two days, Monday and Tuesday, we heard that the world was coming undone. We, you and I, may just take it in stride. In other words, we might take no action. But hedge funds don't do that. They have a bias for trading. If the market is in freefall, you go after everything and you go short. When we got that lift on Tuesday, hedge funds galore used that lift to place bets against all sorts of companies. Why not? When the market is a free-fire zone, how are you going to get hurt shooting?
The downside to shorting seemed so low. But takeovers change the equation. If you are a short-seller, which was pretty much the full time job of Karen Cramer when we worked together, you fear only one thing: the buyout. It's terminal. You can't battle it. You are finished. And yet that's exactly what happened here with the hotel-and-leisure and food bids. Suddenly out of nowhere, just when Brexit was supposed to create the ultimate disaster for stocks, we have buyers stepping up to spend billions upon billions of dollars to acquire other companies! Blasphemy. Not fair. Not supposed to happen. But it did.
When investors get scared out of their wits and hedge funds take action on those fears, it can be a pretty explosive reaction when the shorts go astray, especially at the end of the month when we get classic window-dressing buys as I saw all day today. All I can say is that it's a sight for a sore bull's eyes.