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Like Taking Candy From a Baby

you might recall on Saturday June 2 following the horrible NFP number that saw a 32 point drop (-2.4%) on the S&P 500 and a bond market spike to 1.45% all-time low yield, we tried to keep everything in perspective as this was a move we’d been anticipating that closed on that Friday right at a target of 1278 that represented a 10% correction and that it also looked to finally starting to climax into one of our big pivot support areas around 1265.  In Definition of Insanity we wrote:

After Friday’s disastrous employment report the markets continued the trend we had been monitoring since March in what looked to be a climax type of move with treasuries making new all time highs, closing both the 10YR and 30YR at record low yields (1.45% and 2.52% respectively) while the S&P cratered  2.50% by 30+ points to close right on top of 1278, a level we have been watching for some time as it represents a 10% corrective measured move against the 10% Nov 2011 correction.

and..

So let’s not get too carried away with wiggles in the data.  Unfortunately, the Fed’s campaign to manipulate the banking system is driving increased volatility in the economy and in the markets.  We have to manage risk with this in mind but make no mistake, there is nothing unusual about the price action in stocks or a 10% correction after a 30% rally.

The following Monday we traded down to 1266, found support but only just drifted higher, however Wednesday we really got motoring and rallied back to close above 1300 at 1315.  We put out a brief chart update in can it be that easy? stating:

if you think the market rallied on “hope”, QE 3 or Mario Draghi you don’t know how to trade.  now lets see if we get follow thru with Bernanke on stage tomorrow…  if we bottomed it won’t matter what he says.

A week later as we approached the witching hour this weekend in Greece the market continued the reversal and closed yesterday at 1342, above the other pivot we had cited on the original chart at 1340.

Now don’t get us wrong, the market got overbought on Friday and you could smell a whiff of short capitulation into the close so we are a bit cautious up here and with Greek elections tomorrow and an FOMC meeting on Wed there are plenty of catalysts to roll us back over.  If we are about to rocket higher through the 1340 area we probably need to do it with the indicators on the floor.

That said, we’ll remain bullish until we see something in the technicals that is concerning.  Thus far looking at the weekly and how price held and reversed at our 1265 area which represents a big post financial crisis pivot in the Bear Stearns collapse low we think this thing could explode to new highs.

Currently the bearish thesis is predicated on “if’s ands and buts.”  Thinking everything is a conspiracy is not analysis. People are way to focused on stuff that doesn’t matter like economic data and Greece.  Meanwhile the market continues to defy skeptics.  Maybe it’s telling you something.

If you want to think about economics consider this.  The Fed wouldn’t admit it but Operation Twist was actually a de facto tightening.  Since they launched the program the dollar has rallied, oil prices have eased and more importantly gas prices.  What got us bearish in March was $4.00 gas prices.  Today we filled up at $3.05.  A 25% reduction in the price of one of the consumer’s biggest expenses is very stimulative to the economy.

Hey this strong USD deflation stuff is pretty cool.  Now I think I will go enjoy some more pork bellies over fried green tomatoes and black-eyed peas at Maddie’s Place.

Trade Ex Ante

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John Taylor: just do the math

similar to what we’ve been saying…

From his Blog Economics One

Friday, June 8, 2012

Fed Bought 77% of Federal Debt Increase in 2011: The Data Source

During an interview on CNBC Squawk Box this morning and in my Wall Street Journal oped of last Friday (June 1), I mentioned that the Federal Reserve purchased 77% of the net increase in the debt by the Federal government in 2011. Several people have asked for references for that amazing percentage. The calculation is due to my colleague John Cogan, and is based on data reported in the Federal Budget, FY2013 Historical Tables, Table 7.1: Federal Debt at the End of Year: 1940–2017.
Here is how it is calculated. Table 7.1 shows that federal debt held by the public increased from $9,018,882 million at the end of fiscal year 2010 to $10,128,206 million at the end of fiscal year 2011 for an increase of $1,109,324 million during fiscal year 2011. The same table shows that Federal Reserve holdings of federal debt increased from $811,669 million to $1,664,660 million during the same period for an increase of $852,991 million, which is 77 percent of $1,109,324 million.
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Don’t Wake Up in a Roadside Ditch

When your investment portfolio has a negative annual returns for over a decade you get mad and when you get mad you turn on the TV and listen to CNBC.  When you listen to CNBC you hear a lot of things that don’t matter like what is going on in Europe overnight, whether economic data beats expectations and whether we are in risk-on or risk-off mode.  When you hear these things that don’t matter you don’t get more angry you get scared.  When you get scared you buy put options on the S&P 500 right in front of expiration.  When you buy put options in front of expiration inevitably the market rallies and your premium goes to zero.  When your premium goes to zero, you go out and buy a bottle of Thunderbird.  When you buy a bottle of Thunderbird you get hammered and pass out.  When you get hammered and pass out, you wake up in a roadside ditch.  Don’t buy put options in front of option expiration.

Chart: FreeStockCharts.com

it seems these days the market wants to rally in spite of itself.  Our 1165 pivot worked like a charm but the Spain bailout reversal put us on alert as the market is trading with some intense volatility which tells us money is scared and trading is illiquid.  Nevertheless, yesterday’s close remained above Friday’s low at 1307 and today we had a nice bounce as the shorts continue to beat themselves up.

With quarterly expiration approaching we thought the market could be setting up for some sideways premium burn and while anything can happen the market just has that look.  In fact in checking open interest for the SPX June expiration we see that the largest strike price by a factor of 2 is the 1200 puts at 247k contracts.  It would be very difficult for the market to get too much downside momentum with such a massively short position underneath.

We think holding 1265 keeps the pressure to the upside.  With the U.S. Open this weekend as well as Greek elections we doubt any big bets get placed for the balance of the week.  We advise a wait and see approach as we get thru the elections and next week’s FOMC meeting on Wed.  There should be plenty of opportunity to position once the market breaks from this range meanwhile you can avoid getting chopped up in the expiration premium burn.

As you see the overhead pivot is 1340 and we doubt the market can get the energy from here to get through that level so look to continue back and fill and the potential for a nice reverse H&S rally when expiration is out of the way.  good luck out there, trade ex ante…

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can it be that easy?

if you think the market rallied on “hope”, QE 3 or Mario Draghi you don’t know how to trade.  See Definition of Insanity and Pre-NFP Risk-On/Risk-Off Positioning Update

Chart: FreeStockCharts.com

now lets see if we get follow thru with Bernanke on stage tomorrow…  if we bottomed it won’t matter what he says.

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The Definition of Insanity

After Friday’s disastrous employment report the markets continued the trend we had been monitoring since March in what looked to be a climax type of move with treasuries making new all time highs, closing both the 10YR and 30YR at record low yields (1.45% and 2.52% respectively) while the S&P cratered  2.50% by 30+ points to close right on top of 1278, a level we have been watching for some time as it represents a 10% corrective measured move against the 10% Nov 2011 correction.

Chart: FreeStockCharts.com

After the news broke the financial media and punditry were all sounding the growth slowing alarm and calling for more stimulus from the Federal Reserve.  This morning’s NYTimes went so far as to suggest they had not done enough and the jobs number implies they may be forced to act.  We don’t know whether to laugh or cry.  Done enough?  How about they’ve done too much.

We got cautious in February due to the rising gas prices and subsequent effect on the “real” risk premium.  You see the market is not stupid and despite interest rates being at record lows, risk premiums are not being floated off negative yields, you have to use inflation and rising gas prices represent one of the larger net changes on consumer prices.

in Gas Prices and the Real Equity Risk Premium (3/18):

Our concern with market valuation is that when looking at the current $3.88/gal it is consistent with much higher CPI run rate, closer to 4% rather than the 2.9% Feb print.  This would tighten the current 400bps Real ERP to closer to 300bps and with stocks rallying on mostly multiple expansion into rising inflation the Real ERP can contract quickly.  We aren’t anywhere close to the zero line even at 4% YOY CPI but if gas prices takeout the $4 level the inflation pressure on the multiple should start to kick in and defense is warranted.

But what do we have now?  The exact causes of growth slowing in rising raw material prices are now waning and the dollar is rallying.

One of the other potential reasons for a spring slow down in growth is that the warm winter we had pulled forward some growth we would typically experience in the spring.  The bears complained about this in February when the market was hitting new highs but they don’t want to discuss that today.  We saw an interesting interpretation of Friday’s other big number in the May ISM manufacturing report.

In Bloomberg’s “chart of the day” Carlos Torres reported that the relationship between new orders and inventories.

The slowdown in U.S. manufacturing in May will probably be short-lived as orders climb and stockpiles are down down.

An increase in bookings paired with a drop in inventories pushed the spread between those measures to the highest level in two years.

Quoting Conrad DeQuadros, senior economist at RDQ Economics, The indication from orders and inventories is that production, and potentially employment, will pick up in the months ahead.  The ability of companies to fill demand through inventories is being greatly reduced.  The manufacturing sector is probably the strongest area of the economy, and the forward-looking indicators are encouraging with orders picking up and inventories very low.

Bradley Holcomb, chairman of ISM survey said on a CC with reporters, There’s a lot of strength in that combination of rising demand and fewer stockpiles.  I suspect inventories will creep back up and that will continue to stimulate the pipeline.

So let’s not get too carried away with wiggles in the data.  Unfortunately, the Fed’s campaign to manipulate the banking system is driving increased volatility in the economy and in the markets.  We have to manage risk with this in mind but make no mistake, there is nothing unusual about the price action in stocks or a 10% correction after a 30% rally.

What is unusual is interpreting the price action in the bond market and the parabolic advance in the long end of the curve as somehow a reflection of real economic activity.  We have been pointing to the potential for a short squeeze for months and that is exactly what is playing out.  As we have said before, the Fed’s Bubble of Fear took the discount out of the discount rate long ago and it is nothing but a commodity from here, therefore subject only to the supply and demand of speculators who are getting squeezed and no doubt will soon be positioning for a QE 3 front run.

Chart: FreeStockCharts.com

Thursday Bernanke speaks before a joint economic committee in Washington and the Fed has a June 20th meeting before Operation Twist ends on June 30th.  With election rhetoric heating up it will be very interesting if he is compelled to come back in with yet another round of stimulus.  We think despite European fears, recession fears, jobless fears and all other fears the Fed’s Bubble of Fear is encompassing, the economy is in pretty decent shape and just needs time to adjust to the massive credit bubble debacle caused by the Fed themselves.  We are capitalists because we believe capitalism not only works but the free market is the best allocator of capital and resources, not central government planning.  Mr. Bernanke we urge you to let capitalism work and reap the rewards of the free market.  Simply throwing more debt and manipulation of money and with negative interest rates will only extend the pain, create more distortions and make the eventual exit that much more catastrophic.  It would be like doing the same thing over and over again and expecting a different result.

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Pre-NFP Risk-On/Risk-Off Positioning Update

we’ve been away from posting for a couple of weeks, one because we have seen the market unfold exactly as planned with bonds rallying to new highs as we stated in the Internal Conflict Inside the Fed’s Bubble of Fear while stocks melted in a deep correction as we stated in Like a Hot Knife Through Warm Butter  but also two because we got busy with an outside project that took up significant free time.

Fed’s Bubble of Fear (3/28):

Meanwhile, stocks continue to rally making it hard to short but even harder to buy.  For bonds its the opposite, they are hard to buy but even harder to short.  There is a definite internal conflict that is in the process of being reconciled.  It feels like there is a lot of tension built up and it may be time for some fireworks.  We envision a stock market correction that everyone has been waiting on for 2 months to ignite thoughts of QE 3 and a bond market rally, perhaps to new highs.  But the big trade is after that move, not from here.  From here the inverted risk-on/off boys look for another ride.

Warm Butter (4/17):

If we fail up there that has very dangerous implications for the market.  It would imply an ABC correction which would be either a B wave or a II of some degree.  If that’s the case the dreaded C or III would follow and it would be a violent sell-off that would slice through support..  The 1340 level that everyone is seeing as big support would be warm butter and target a test of 1300/1290.

As we approach the May NFP report on Friday with the markets continuing the moves we outlined in March and April we wanted to provide a Risk-On/Risk-Off positioning update and posit what this may mean for price volatility into the summer months.

We check the CFTC COT report every week because we think it provides a relatively current broad based picture of how the speculative and real money community is positioned.  Readers of this page know we have been watching what we deem as the inverted Risk-On/Risk-Off trade that sees HFs long $FV_F (Risk-On) while being short $ES_F (Risk-Off).  In fact HFs have been net short $ES_F the entire rally since the lows last October.  While fighting the tape they finally covered into a b wave high on the April stronger than expected ISM report earlier this month.  Since then the market has been straight down.  HFs have re-initiated short positions as we hit new lows and could provide buying support though we can see another leg down to elevate the fear factor.

The liquidity is about to dry up as the boys hit the beach but we think the big trick now that they are feeling comfortable they sold in May and went away is that this summer the market could be melting up instead of down.

In the bond market the HFs have maintained their heavy net long $FV_F position sitting near cycle highs with yields near cycle lows.  Out the curve they remain short the$TY_F in what has appeared to us as a steepener trade perhaps to position for the end of Operation Twist (in effect taking the other side).  But this week we noticed an interesting development in that they have gotten very long the long bond contract $US_F in a abrupt reversal of the past 12 months that has seen them short.  At the same time the commercial hedgers which includes the primary dealers are now heavily short after being long the past year suggesting they are long cash duration.

We don’t want to draw any large conclusions on this bond market positioning but would note that the heavy bets both long and short by the specs could set up for some volatility if the data comes in strong and the equity market can find a bottom.  We have been anticipating this melt up in bonds and when it’s over the ensuing reversal could be violent.

This is not a week to be a hero and you need to trade what the market gives you.  That said you have to think like a crook.  The market is well aware of the slowing growth and risks in Europe.  Don’t be surprised if they sell the news so to speak and play the big trick on the consensus and reverse the inverted Risk-On/Risk-Off positioning.  Ex Ante…

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