Less than an hour to go. Equity markets in beat-down mode. Debt markets riding a wave of nervous investors in search of safe haven. The president will speak.
Ahh. Keyword reading algorithms turn a marketplace, as momentum seekers feed on the turn. Will the president say anything that changes the dreary feel to this market? Boom. Doesn't matter. With no human decision makers at the helm, the keyword readers turn on the momentum seekers as the microsecond-paced execution allows for the fastest to simply cannibalize the far slower algorithms that might still be timed in milliseconds. Dinosaurs.
And to think, they mocked the open outcry model for being painfully slow. Yeah.. so slow that buyers and sellers could actually be paired through exposure to an ongoing, two-sided auction at a centralized point of sale. Forget microseconds versus milliseconds. We're talking minutes instead of seconds.
Smart people thinking about what they were doing, even walking away when it felt wrong. Your word was simply your bond, and there were witnesses to everything. Honest price discovery. Honest? Had to speak up. Had to bid and offer. Had to identify yourself, your price and your size, or or you do nothing. Yeah, that kind of honest. Awful? More like paradise, if you could bring it all day every day. Can anyone say one step forward... two steps, no make that five steps back? ... Badge no. 986.
Just What The?
Back in April, the IMF cut expectations for global GDP from 3.5% to 3.3%. Prior to Thursday's excitement, we were forced to acknowledge that manufacturing sector elements of both Japan and Germany are still mired in deep decline. A few hours later, though many in the U.S. solely follow the ISM surveys, we were delivered sobering data regarding Markit's flash PMIs. Yes, even the services PMI came dangerously close to not expanding at all.
On Thursday morning, U.S. Secretary of State Mike Pompeo came off as sternly decisive. This is not a criticism. I think very highly of Pompeo, and feel that he is probably the smartest man in the room, most times that he is in a room.
Pompeo claimed that Huawei -- the Chinese tech and telecom giant that the administration took a hard-line stance against last week as it became more apparent that China had balked on several already agreed points in the on again/off again trade (non) negotiations -- had been dishonest in the way that it portrays its relationship with the Communist Party in Beijing. Cold War.
What traders heard Pompeo say was, "get the heck out of China." And we did. Anything on the book that carried higher than minimal exposure to China was either vanquished, reduced or hedged. Some of us carry a very high number of positions. While this certainly helps provide diversification, it also makes taking action like this akin to turning a battleship while moving through a hurricane. No problem. We adapt. We improvise.
How strong is the U.S. economy, really? No doubt labor markets remain hot. But wage growth has started to cool. Industrial production and retail sales have become inconsistent at best. The housing market has been trending sideways-to-lower for half a year now across many metrics. We'll see April Durable Goods Orders Friday morning. Frankly, they are not expected to look all that impressive, at least not at the headline.
There is great diversity in opinion among economists on where highly focused-upon core capital goods might print. By the way, we haven't heard from the Atlanta Fed on GDP since last week. We will today, after these numbers hit the tape.
So, we must ask ourselves, if we are to be honest, has the fiscal boost provided by the restructuring of corporate and personal federal income tax now run its course? Inflation, though certainly present in spots, has not made life miserable as of yet for everyday Americans.
Now that American workers have become far more productive (3.6%), to be truly compensated, they would need to see wage growth of this number plus core inflation (2.1%). That's a whopping 5.7% in this admittedly simple model -- a long way from the reality of 3.2%.
So, the Fed is handcuffed, and the yield curve inverts. The 90-day T-Bill remains inverted versus the 10-year Treasury note this morning. Gratefully, the 30-day has escaped this inversion for the moment, but remains inverted versus the 7-year. What this means is that neither runaway inflation nor sustained growth is expected by the bond market for a very long time. One glance at the 30-year bond, and it could be the rest of my lifetime, even if I reach old age.
This, by the way, is why futures markets are pricing in rate cuts later this year. Not necessarily because they should, but because they just can't seem to provide any juice to the long end of the curve. The only way to even begin to repair the curve might just be to pressure short term yields. They can start this process by getting off of their tail on manipulation of the average duration of the maturity of their current holdings without materially changing the size of the balance sheet, or making headline news by impacting the Fed Funds Rate. They have talked about it. Time to move the football. The Fed needs traders right now, not academic economists.
Equity index futures enter the day in rally mode. Why? President Trump happened to open up the possibility of including Huawei in any possible trade deal with China. Mind you that there are no high-level talks scheduled with China. Mind you that the administration just blacklisted Huawei as a threat to national security. I would remind you of the Secretary of State's stated opinion on the matter.
In addition to Secretary Pompeo's aggressive words, Sonny Perdue, Secretary of Agriculture, opined that the trade war with China could likely last through this summer as the second annual multibillion-dollar bailout package for U.S. farmers was announced. The president even referred to Huawei as "dangerous," while implying that progress on the trade front could be made. Listen, gang. We have a three-day weekend ahead of us in a tough headline environment. If the market adds risk on this day on good volume, that would be highly positive, technically. That said, I would think that active managers would prefer to go into this weekend on the skinny side, if you know what I mean.
Everything you see before you is talk, or negotiation. The G-20 meeting takes place in Japan next month. My guess is that nothing concrete takes place prior to that meeting -- and even then, if they actually decide to meet, the two sides will come out of that meeting using words like "constructive" to describe any discussion. Oh, and the algorithms will eat that up.
Manipulating Net Basis
So easy a caveman could do it? Not really. So easy that I can do it? Yes. And I am no smarter than you are. Splunk (SPLK) reported first-quarter performance on Thursday night that appeared to me to be nearly perfect in execution. You know I am in many names across the cloud. I keep no secrets. Well, the cloud took a beating along with everyone else on Thursday. I wrote to you last week about Splunk ahead of these numbers. I explained what I thought looked like a bullish setup, but also explained to you that I was holding off on pulling any triggers unless the pivot was triggered, which it was not. The stock is now trading considerably lower than it was one week ago.
Splunk reported Q1 EPS of $0.02, a serious beat and a surprise profit. Revenue, while also topping expectations, printed at year-over-year growth of 36.3%. That, by the way, is in line with the rate of growth recently driven by this firm. I have explained to you how important that is. The share price? When I wrote you last week.. $139.81, as of last night's close... $128.73... last tick I see in the overnight... $126.45. I came in with no equity position, while short 118 puts expiring today, as well as short 150 calls that expire today. How unrealistic, you say, to sell options so far out of the money.
Understand that the intent here was not to have these options exercised against but to raise revenue. My aggregate net credit here is $1.40. What does that mean? Should I choose to purchase the shares on this day, I have already reduced my basis on that position by that much. See how guys like me make money?
Manipulating points of entry is not really that hard. One does have to be ready and willing to accept the risk should the share price move past the strike price on these options positions. That is a real risk.
If you read me often, you know I got caught on Intel (INTC) last month in this way, and you know that I got tagged last year in Nvidia (NVDA) . It took months, but I was eventually able to to turn that unwanted Nvidia trade into a winner. (Intel is still a loser, at this time) The point there is that even after the fact, net point of entry -- what I often refer to as net basis -- can still be manipulated, often to the point where net basis is actually lower than the low point of the security's trading range for the period. Never accept defeat.
Economics (All Times Eastern)
08:30 - Durable Goods Orders (Apr): Expecting -2.0.% m/m, Last 2.7% m/m.
08:30 - ex-Transportation (Apr): Expecting 0.2% m/m, Last 0.4% m/m.
08:30 - ex-Defense (Apr): Expecting -1.7% m/m, Last 2.3% m/m.
08:30 - Core Capital Goods (Apr): Expecting 0.3% m/m, Last 01.3% m/m.
13:00 - Baker Hughes Oil Rig Count (Weekly): Last 802.