Macro and Markets
I want to start this weekly wrap by looking at an interesting chart from Tom Lee, by way of the Fat Pitch blog:
The title of the figure is “the full year return when S&P500 made a parabolic rise”. Of the 8 such scenarios identified, 6 ended higher in the next 12 months. My own equity price model predicts a small pull back in January, a more severe on in May-June and then a sharp one in October, before topping out some time in 2019. Of the 8 sub-plots, my forecast most closely resembles that of 1951. However, knowing that parabolic phases are highly unpredictable, I see reasonable chances for the top occurring in May, October and next year, at something like a 15/35/50 split in probability.
The preceding lays the background to address the elephant in the room: stocks had a terrible week ending with 2% down on Friday. However, if you believe new highs are still ahead, this dip may well be the last low-risk buying opportunity.
RSI(5) just entered oversold territory. My model predicts a January dip equal to or milder than the one in November. Other indicators like equity put/call ration and the CNN Money fear and greed index are pointing to short-term oversold conditions. I added $DIA calls, the majority on Friday. I can’t guarantee the market won’t drop further next week, but if it does, I’m ready to buy more.
The drop in stocks was precipitated by the rout in the bond market. I feel obligated to update my $TNX chart (Last shown Nov 5). Trend lines were draw in the same way as before. My expectation back then was 2.8% in the first half. The 10-year yield ended last week at 2.85%. With RSI(14) entering overbought territory and the first trendline approaching, I expect a near-term top, possibly as soon as next week. It’s too early to say whether a double top similar to 2H2013 and 2016-17 is in the cards. At any rate, I don’t expect bond yield to be allowed to grow out of hand. As such, I added to $NAC this week as discounted widened above 10%.
The dollar bounced with increase yields and PMs fell. Referring to the 13.5 months cycle, its last low was Dec’16 which implied another low just around now. Note the yearly low in 2017 was in early July which was the mid cycle low, the present low could very well also be the yearly low for 2018. That said, equities are where the main action is for now. Looking at the $SPX:$gold ratio on a weekly chart, if it were a stock I’d buy without hesitation.
I highly recommend the 5-part podcast series on the US dollar at MacroVoices for a very relevant long term view.
Other than the $DIA calls and $NAC already mentioned, I closed the $UVXY calls early in the week. They were intended as hedges and I made a quick double. But there was a “fat finger” moment at the end of Tuesday and I sold my last bunch too early. I would have made more had I kept some until Friday. Overall, I consider this first test of my VIX strategy a success. I now have a better idea of the appropriate position size and leverage.
Current portfolio composition is as follows: PMs 11.5%; equities 53%; FI, 24%; cash equivalent, 4.9%; and other, 6.6%. The “other” category is composed of 3X ETFs, 0.3% and options, 6.2%. Effective exposure from options is equal to 98% of total portfolio value for a leverage ratio of 15.7X. The portfolio is 151% long equities (not beta-adjusted). There was a pretty drastic decrease in options market value. But the effective exposure was stable due to additional $DIA calls.
MTD the active account is down 5.95% and the total portfolio down 4.16%, vs. -2.29% for SPY and -1.62% for 60/40. The month is still young and I firmly believe the market will recover and my portfolio to further outperform due to leverage and buying on the dip.
- Discussion on five different levels of investors by Graham Duncan
- It’s hard to predict how you’ll respond to risk by Morgan Housel
- MacroVoices pod cast on volatility
None of the above is investment advice, the standard disclaimer applies.