Risk Assessment? Finally. This past Friday, the Nasdaq Composite shaded red for the day. Not much of a selloff at all to be honest. Fifteen points to the downside for a whopping decline of -0.17%. That same index, along with the S&P 500, as well as the Dow Jones Industrial Average (both of whom gained on the day) all set new intra-day highs (yet again) early in the session. Interestingly, aggregate trading volume for constituent corporations landed an incredible 29% below the S&P 500's 50 day SMA, and 12% below that same metric for the Nasdaq Composite, the fourth consecutive day of significantly lighter trade for U.S. markets.
What we have learned is that the holiday season outweighed the last weekly options expiration event of the decade for most investors/trader types. More of the same this week? My guess is at least for today. Then we'll see some funk return to the marketplace, as New Year's Eve can provoke a few traders who have dragged their feet on taking appropriate losses, and then a few Fed officials come out of hibernation later this week. Keep in mind that this Friday is the last day of what is typically referred to by traders when the "Santa Claus Rally", a market phenomenon that only covers a seven business day period no matter how much you hear "professionals" refer to the this event as if it were a good reason for what financial markets have experienced this quarter (or month in particular).
While all might seem quiet where as trading volume or even interest is concerned, there are some out there working to either bet against these markets moving forward, or perhaps at least mitigate their net-long risk. On Friday, losers beat winners, and declining volume beat advancing volume at both the New York Stock Exchange and the Nasdaq Composite despite the fact that two of our three most highly covered indices manged to close in the green.
In addition, we'll now note the CBOE Put/Call ratio, while isolating options related solely to equities. The eyes are quickly drawn to a seemingly low end of day print 0.6. Yes, that is indeed quite low, but that print also retook a declining 50 day SMA line for the first time since Monday, December 9th.
So folks appear less concerned (though concern is rising) for their net-long positions in individual equities. Now, let us ignore puts and calls related to equities, and just focus on those related to indices.
How interesting is that? Concern for the broader indices appears to have been elevated now for about a week, and closed down on Friday at a Put/Call ratio of 1.29, which would land at, but not pierce, it's own 50 day SMA.
So what does this make me think? I think that perhaps traders are placing bets on a declining market, but are in general (and I admit that this a whopper of an assumption) more comfortable with their late 2019 rotation into Energy, Health Care, Technology, and even Financials stocks, while sort of forsaking the REITs and the Industrials over the past month. What does that imply, if there is an implication? Higher long term rates coupled with less than robust economic expansion? Hey, I'm just a reflection in the window. Not panicking, just rolling a few things around in the back of the cranium. The Materials sector, though hanging around toward the bottom of the sector standings over the past month, and highly reliant upon growth is still 2% higher since November. That makes the playoffs most years.
Water Snakes and Alligators
Ever been hip deep in black water, and one among you gets bit on the tail by a water snake? Yeah, you call for a helicopter? You get that guy out of there, but you're still in the water, and you're going to be for a while. Think your ex played head games? Try the creatures of the night that inhabit a thick black water that smells like rot. Don't let them crawl into the blackness of your brain. It could stop you, or you could buck up, check your azimuth, keep the important stuff dry, and move on. The market is no different. We wade into the unknown, and some of us will get banged up along the way. We need to dig in. We need intel. Not Intel (INTC) . Intelligence.
There is more. Are investors getting nervous, even as the word "melt-up" is thrown at them from somewhere in the financial media every day? The CBOE Volatility Index (VIX) did pop 2.46% on Friday, closing $13.76. That's the highest level we've seen in a couple of weeks. The VIX doesn't really tell us all that much, and using percentage terms to describe its daily movement makes one feel less than developed intellectually. Let's figure a different way to study this. We'll take a look two ETNs (Exchange Traded Notes) that offer a glimpse into "black water" sentiment.
What I take away from these charts is that while interest in downside protection has clearly ebbed into year's end, that in each case there has been a recent bottoming that appears to have resulted in a spike this past Friday. There has also clearly been much higher trading volume in the (VXX) ETN this December than there had been prior, and that volume spiked as well on Friday.
What is the difference between these two ETN's? VXX basically holds long positions in VIX futures, but just going out over the next two months. VXZ (VXZ) is structured similarly, but focuses on months four through six. You'll notice that trading volume in VXZ (always lighter) has remained constant. In addition, VXZ is currently trading on the doorstep of what could be an imminent "death cross", meaning lower levels for the VIX going out up to half a year. That is in contrast to what I think I see in the VXX, where the volume is elevated, and the gap between the 50 day SMA and the 200 day SMA is expanding.
Now, I might just be the madman who stares out his blackened office window and wonders. About all kinds of things. Can you believe the Jets finished at 7-9. They almost don't stink. I think this entire ball of wax, from the segregated put/call ratios to these VIX related ETNs is telling me that traders believe (they can be wrong, in fact they often are) that markets will be in pretty good place going into the national election. This is the but... at least enough traders, despite what they say publicly have started to think that they may have to fight off some angry water snakes and alligators throughout the early part of the year.
I do not want you to threat over this. I want you to see threats before they arrive in force. The Phase One trade deal has not yet been signed. I think it will be. Yet, that is priced in, so the threat is to the downside. Price that out, and then an already assumed rebound in global economic activity has to be priced out as well. Challenging? Of course. Embrace the challenge. There is glory in accomplishment. There is only accomplishment through adversity. That said, let us move forward with the greatest of elan. Let our hearts burst with joy as we focus on the fight ahead. Big smile. Take my hand.
A Thought On Inflation
We already know that consumer level inflation has run below central bank targets for longer than anyone ever anticipated. We're pretty sure low rates are to blame. For the U.S. Especially for Europe and Japan. Now comes another year of intentionally irresponsible fiscal policy. This, at least here in the U.S., raises the prospect of a weaker U.S. dollar moving forward. Stay with me here, we're going to do some thinking.
The Phillips Curve has long been considered dead as 50 year low unemployment has failed to produce consumer level inflation in the way that governments conveniently report it. What if that was simply due to the silent slack in this market? What if the Phillips Curve really is law? Now, we also find out that wages on the extreme low end of the pay scale are growing much more rapidly than it is for their managers, and that median savings as a percentage of disposable income are riding far higher for U.S. citizens than for any sustained period since the early 1990's. I don't care whether you credit economic policy or legislation for the sudden burst of improvement at the lower bound of this scale. Let the politicians fight over taking credit.
What I do care about is the downward pressure that this will place on corporate margin as we move into the new year. Projections place earnings growth for the S&P 500 at a rough 9.6% for calendar 2020... on revenue growth of 5.4%, suggesting vast improvement in corporate margin. Are the experts wrong? Hey, I told you, I'm just a reflection in the window. The fact is, and maybe fact is the wrong word... my thought is that with a weaker U.S. dollar, rising commodity prices, and rapidly rising wages at the lower bound, that there will be at some point this year, an effort made to increase consumer prices, with or without a "trade truce." The ability of the U.S. consumer to adapt to a changed environment will provide more than clues as to a potential for labor market strength going into the election. A public failure to absorb such an occurrence could result in increased corporate consolidation. Just some more food for thought as you traverse your future.
Knocking on Heaven's Door
As I have tried to illustrate often enough, the S&P 500 has performed largely in correlation to the spread between the yields paid between U.S. 3 Month T-Bills and U.S. 10 Year Notes for quite some time.
That spread went out on Friday at 31 basis points. Early this morning (Monday), we see foreign traders selling the long end of the U.S. curve through the overnight. As I type, the 10 year yields 1.92%, and this spread has expanded to 36 basis points. Does that hold into the open of business of Wall Street. It's still dark, but S&P futures are trading below fair value, so... hard to say. What I am comfortable with is that this wider spread, if it holds, will be good for financial stocks, and I think one of my names still has some room to run. Check out Citigroup (C) .
Readers will note the breakout of the cup with handle pattern in mid-October, that crested in November only to find support at the 50 day SMA. I think Citigroup as value play (nine times forward PE) has some more room to the upside, and could benefit from international exposure. Remember that among banking stocks, Citi has been trading well below tangible book, and the firm has always shown an aggressive willingness to return capital to shareholders.
- Target Price: $85
- Add: Not above a retest of the 50 day SMA.
- Panic: $68 (200 day SMA)
Note: Citigroup is scheduled to report Q4 earnings on January 14th, and Q1 in April. A trader already long the name might consider selling (writing) an appropriate number of March $85 calls against the position as a method toward reducing net basis by a rough $1.30 without increasing downside equity risk. Just an idea.
Economics (All Times Eastern)
08:30 - Goods Trade Balance (Nov): Expecting $-69.1B, Last $-66.8B.
08:30 - Wholesale Inventories (Nov-adv): Expecting 0.2% m/m, Last 0.1% m/m.
09:45 - Chicago PMI (March): Expecting 48.1, Last 46.3.
10:00 - Pending Home Sales (Nov): Expecting 1.7% y/y, Last 1.7% y/y.
10:30 - Dallas Fed Manufacturing Index (Dec): Expecting 1.4, Last -1.3.
The Fed (All Times Eastern)
No public events scheduled.
Today's Earnings Highlights (Consensus EPS Expectations)
There are no significant quarterly earnings scheduled for release today.