One of the most frustrating things about the mainstream financial media is the steadfast, seemingly never ending refusal to learn how derivative markets work. Commentators yammer on about the "volatility index" or "the fear gauge," the VIX, without understanding the difference between implied volatility of options contracts and the actual volatility -- or amplitude if you will -- of the underlying securities. Implied volatility can change for many reasons other than "fear" or "lack of fear" but real volatility occurs when the market as a whole is conducted.
So, if the DJIA is down 600 points one day and up 800 points the next, one might rationally assume a state of confusion. Yes, that is what is happening now. Today's doozy of a rally has cemented my belief that equities are an unattractive asset class, even as the Nasdaq has risen more than 4% today.
When I was watching CNBC's interview with Morgan Stanley's excellent auto analyst Adam Jonas yesterday -- a friendly competitor when we were both following the sector in London 20 years ago -- I realized that there are a few of us who are keepers of a lost, dark art. We are the Jedi. We value assets.
So, in a market that is so Fed-addled as to be laughable, I am increasingly convinced the only way to generate sustainable trading profits is to wait until the market overreacts and take the opposite side. When valuation is at least 20% above its fair value, wait for another 10% and short. Similarly, when assets are underpriced, wait for the machines to take over and drop that asset's price by another 10% and then take the other side.
What is amazing about this market, though, is that the machines that are driving the trading extremes have programmed humans to speak in nothing but meaningless platitudes about their activities. It's genius, really.
Anyway, here are several bits of conventional wisdom in regard to the capital markets that are just plain wrong and quick suggestions on how to play the opposite.
There is a glut of oil in the world fed by ever-increasing U.S. production. U.S oil production is not increasing.
According to the EIA, last week's level was 11.7 million barrels per day. That is in the range of 11.6-11.7 mmbpd that has held for the past six weeks. While the EIA showed a James Bond-approved increase of 0.07 mmbpd in U.S. inventories last week, the trend is in U.S oil inventories is down. Also, OPEC is cutting production and, according to Baker Hughes GE's figures, U.S. producers ran fewer rigs last week than the week before. Oil's going to jump at some point in 2019, and the way to play is via stocks of stable, well-capitalized oil E&Ps like Evolution Petroleum (EPM) , Callon Petroleum (CPE) or Ring Energy (REI) -- names that were decimated in 2018. A more risky way to play is the 3X long daily oil ETF (USOU) . If you can stomach the volatility (actual not implied,) that trade will make money.
Inflation is under control. It is not.
Buried in the morning's BLS non-farm payrolls report was the data point that average hourly earnings increased by 3.2% in December. That's a sign of classic wage-push inflation that one would expect to see as the labor market tightens even further in an economy that just experienced >3% growth for the first time in 14 years. Employed people buy stuff. Look at Walmart (WMT) and Target (TGT) after their recent pullbacks and if you want to jump into the deep end of the pool, buy shares of Dollar General (DG) .
Fed Chair Powell is going to ease up in his fight against inflation. No, that's his job.
By statute the Federal Reserve has two mandates: fight inflation and stimulate employment. No reasonable person could argue the Fed's efficacy on the employment front after December's monster 312,000 gain in non-farm payrolls, so that leaves fighting inflation. Despite his washy-washy comments in Atlanta today, I expect Powell to continue to do just that. Thus, the yield curve will remain flat/inverted (depending on your measurement points) and that is horrible for banks, especially smaller ones. Fire up a short on the S&P Regional Banking ETF (KRE) , and sleep easier at night.
