The Stock Market Rally Everyone Hates?
The rally in global equities over the preceding month had taken investors by surprise, coming as it did right after the referendum vote opened-up a proverbial 'Pandora´s Box' of political uncertainty, but several developments in global capital markets warranted watching, Morgan Stanley´s strategy team said.Indeed, high beta stocks are on fire which explains why high flying biotech shares (IBB and equally weighted XBI) are coming back strong after being crushed earlier this year.
Nonetheless, Morgan Stanley's Managing Director Graham Secker did concede that the rally had taken place against the backdrop of the G10 economic surprise index rising to a two-and-a-half-year high.
Indeed, "surprisingly, the UK currently has the highest economic surprise index reading of any major region", he said.
Among the developments to monitor are:
1. Five-year, five-year inflation breakevens stateside started to fall in the latest week, after having risen before, which would make the rally in stocks look vulnerable if that trend continued.
In this regard, Secker noted how the Chinese yuan - a key driver of inflation expectations in 2016 - had been making new lows of late on a trade-weighted basis.
2. The Chicago Board of Options Exchange´s volatility index, or VIX, the acronym by which it was known in markets, had plummeted below the 12.0-point level to close to record-lows despite "high" political uncertainty.
"If the recent spike in policy uncertainty normalizes soon, then this current disconnect is not particularly worrisome for markets; however, such a scenario strikes us being rather optimistic," Secker said.
3. At 22.0%, net short positioning in the VIX was at its lowest in three years. Troughs in that speculative positioning usually coincided with tactical peaks in markets, the strategist pointed out. Since 2010, on the other ocassions when the VIX had hit similar levels, on average declines of 2% in European equities ensued over the subsequent one and three months, he added.
4. Investors had gone net long both US equities and US Treasuries by two standard deviations. Such an occurence had only been witnessed three times over the past 30 years, in 2000, 2006 and 2012. For its part, the RSI for the German Dax had moved above 70 and the broker´s Global Risk Demand Index (GRDI) was above +1 standard deviations.
5. The breadth of the outperformance by high-beta stocks had been the greatest since 2012, with 87.0% of European high-beta shares outperforming over the last month. That has also been seen three times in the past, in April 2009, March 2010 and January 2012.
But it's not just biotechs that are roaring back, many tech stocks are performing exceptionally well. And it's not just Facebook, Amazon, and Google that are flying high, just look at semiconductors (SMH) and optical component stocks led by Acacia Communications (ACIA) which are surging higher (click on image):
Now, when high-beta stocks are flying high and the VIX (volatitlity fear index) is near its 52-week low, you might think it's time for us to see a very nice pullback in this bull market everyone hates.
Just how hated is this market? Despite the rally, most investors are hoarding cash. A survey conducted by Bank of America Merrill Lynch last month found that cash levels of investors were at 5.8 percent of portfolios and at the highest levels since November 2001.
And CNBC reports the world's billionaires are holding more than $1.7 trillion in cash — the highest amount since one firm began recording the measure in 2010:
Because of what they perceive to be growing risks in the economy and world, the world's 2,473 billionaires are keeping 22.2 percent of their total net worth in cash, according to the Wealth-X Billionaire Census.So are the world's billionaires right to hoard so much cash? Maybe they've been listening to George Soros's dire warnings but so far he's been wrong on China and he was wrong calling for another 2008 crisis earlier this year and more recently, he was wrong about Brexit being a cataclysmic event.
The group has also benefited from the recent surge in so-called liquidity events from corporate acquisitions and mergers. Altogether, their cash hoard is now roughly the size of the Brazil's GDP.
"Billionaires are taking money off the table where available, while uncertainties in the economy and the historical highs found in deals have resulted in cash-flush portfolios," the report said.
The firm's findings are in line with those from other recent surveys. A study released by UBS last month said wealthy Americans are keeping around 20 percent of their portfolios in cash, in line with their post-2008 average. More are considering reducing their exposure to the markets because of uncertainty over the presidential election, UBS said.
In June, Soros came out of retirement to manage his fortune, a move that received a lot of attention in the press, and last week we learned Ted Burdick is stepping down as chief investment officer for Soros’s $25 billion family office after less than a year in the role:
Burdick, who had been head of distressed debt and arbitrage groups before his promotion in January, will remain in his current post until a replacement is found and then will return to running a credit portfolio at the firm, according to people familiar with the matter. Soros Fund Management is looking for a CIO candidate with experience in macroeconomic investing, said one of the people, asking not to be identified because the information is private.What do I read into this latest CIO move at Soros Fund Management? Not much, Soros changes CIOs and portfolio managers more often than he changes his shoes. He's got a reputation for being ruthless when it comes to his internal and external managers.
But it's a tough macro environment and even the great George Soros is having difficulty making sense figuring out markets that are confounding smart money.
The question is Soros really bearish or is he playing everyone for fools while he goes long risk assets? This week I will go over top funds' activity for Q2 2016 in detail but one thing that worries me is the surging yen because it could trigger another crisis, in particular another Asian financial crisis. This is why back in early May I said it feels more like 1997 than 2007.
Japan’s economy nearly stalled in the second quarter amid falling exports and weak corporate investment, showing the nation is still largely dependent on government stimulus for growth.
And China’s imports of crude oil, coal and natural gas slowed in July, offering no solace for producers hoping demand from the world’s largest energy consumer may help mop up global gluts of the fuels.
Even more worrisome, International Monetary Fund staff said that 19 trillion yuan ($2.9 trillion) of Chinese “shadow” credit products are high-risk compared with corporate loans and highlighted the danger that defaults could lead to liquidity shocks.
And yet the stock market doesn't care, it's dismissing another Big Bang out of China, and keeps registering record highs. And if you look at the way emerging market (EEM) and Chinese (FXI) shares are trading, you'd think all this bearish talk about China is way off.
Maybe the stock market has it all right and the bond market is wrong. Maybe but the last time all 3 stock indexes broke records, a long tumble came next:
The last time the Dow Jones industrial average, Nasdaq and S&P 500 closed together at new highs was Dec. 31, 1999. Bill Clinton was in the White House, "The Green Mile" was in theaters and the dot-com bubble was nearing its apex. In March 2000, that bubble burst and all three indexes plunged.Why are all three US stock markets making new highs? It's all part of the global search for yield but it's also a function of monetary policies which promote risk-taking activity.
Since then, it's been more than 4,000 trading days without seeing new highs together.
But before investors start running for the exits, there's something very important to note: 1999 was the end of a long bull run that saw those same three indexes close at record highs together a stunning 131 times from 1986 to 1999, according to the Kensho analytics tool. So even though Thursday's "trifecta" has not happened in a long time, it does not indicate a higher likelihood of a sudden downward move now.
It was a different story in 1999.
By the end of 2000, the Nasdaq was down 39 percent, the Dow 6 percent and the S&P 500 10. Two years after reaching their historic highs together, the Nasdaq had lost half its value, and closed down 52 percent on Dec. 31, 2001. The S&P 500 closed down 22 percent in that time and the Dow 13 percent.
After that, it wasn't until October 2006 that the Dow 30 got back to its previous high. The S&P 500 didn't until May 30, 2007.
Some of the discord in not reaching new highs together is due to the Nasdaq, which only re-reached its 2000 high in April 2015. The Dow and the S&P 500 have hit highs together many times since then, mostly in 2013 and 2014.
Importantly, there's a lot of liquidity in the global financial system and even though institutional, retail and high-net worth investors are hoarding cash, the CTAs managing multi billions don't care, they're all long these markets and each new high in stocks or new low in US bond yields makes them increase their net long stock and bond positions (this is why David Rosenberg thinks smart money is confused).
What are global macro funds managing billions doing? Most of them are shorting the CTAs, making bearish bets, and so far just like Soros, they've been wrong.
I don't know what will give in these markets. I'm just trading my biotech shares and making great returns but that means absolutely nothing to me in these schizoid markets.
All I can tell you right now is what I've been telling you, I see no summer crash but given my bullish US dollar views, I remain highly skeptical of a global economic recovery and would take profits or even short emerging market (EEM), Chinese (FXI), Metal & Mining (XME) and Energy (XLE) shares on any strength.
Paradoxically, I remain long biotech shares (IBB and equally weighted XBI) as I see great deals in this sector and momentum is gaining there. I'll even share some stocks I'm currently trading and monitoring here (click on image):
But remember biotech shares are extremely volatile and not for the faint of heart because when they sell off, they sell off hard. But if you ask me, there are still great opportunities in this sector and if you don't like individual names, stick to the ETFs (more on this when I go over top funds' Q2 activity).
And while everyone is nervous about this global rally in stocks, I remind all of you to ignore anyone telling to sell everything but gold and to hedge your portfolio using good old US bonds (TLT), the ultimate diversifier in a deflationary world.
Below, permabull Tom Lee of Fundstrat Advisors discusses his bullish outlook on consumer discretionary stocks with Brian Sullivan.
Second, the "FMHR" traders discuss the trades in the mining and metals space as gold and silver continue to gain. I wouldn't touch metal and mining shares here and just like energy and emerging markets, I would reduce exposure or short them on any strength.
And Irina Koffler, Mizuho Senior Analyst, discusses her upgrade call on Valeant Pharmaceuticals saying she believes the short thesis has been "debunked." She may be right, at least Bill Ackman and Fidelity think so.
Lastly, Bloomberg's Katia Porzecanski discusses why George Soros is seeking a new CIO. I have a few names in mind but I'm sure Soros will find someone very talented with a global macro focus.
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