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Confuse Us Say: When River Flow Uphill, Bear Must Float

About a year ago I began offering both long and shortsale swing trade chart picks as a (potential) value added feature to the usual general market analysis and forecast in these reports. That service has grown as I’ve honed the methodology and gotten better results. This week, I want to share some thoughts not only with subscribers who support the service, for whom I’m eternally grateful, but also with non-subscribers. So please “bear” with me. 

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The lesson of the chart picks this week was this. It’s good to be good, and better to be lucky, especially if we learn from it.

List performance for the week was both good, and lucky. It had one of the best performances since I began offering chart picks last year. With an average holding period of two and a half weeks – 18 calendar days – the average gain rose to 10.3%. That’s on an all cash basis, equities only, no margin, no options.

You could juice the return by playing with fire, oops, I mean options, or you could use margin, which works great when they give you free money and you’re generating consistent profits. It works the opposite of great when you’re not.

Now, I don’t like risk. I like to boost returns over the long haul by reducing risk in the short run, avoiding the slings and falling earnings turds of outrageous fortune whenever possible.

In addition to earnings turds we also have the more pervasive problem lately of lousy entries. All the massive gaps we’ve had on the open in New York since early November have made it virtually impossible to get a good entry price on Monday mornings after these reports are published. So a couple weeks ago I instituted a few changes in how I would open chart picks, recounted as follows:

11/30/20 That [+4.8%] compared with an average of just a 1% average gain as a result of the disastrous entries on Pfizer day, November 9. New York opened on a huge upside gap that day and spent the rest of the week backtracking.

The list has now recovered from that bomb in the pond, but massive opening gaps have become the norm, rather than a rarity. Therefore, I’ve instituted some changes in how I open these picks. I now use a price bracket, shown on the table, outside of which I will not add the pick to the list. Also, I now use 9:45 AM as the entry time price, rather than the opening. There are exceptions, which are noted in the table.

Another difference this week is that the buy picks will not be opened on Monday as usual. Liquidity analysis suggests weakness until Thursday. I’m allowing that to influence my thinking on entry. This is something new. Normally, I stick purely to the technical. It may or may not work out. We’ll see.

When the game changes, we want to change with it. There are only a few immutable rules, like Rule Number One- “Don’t fight the Fed.” And Number Two- “The trend is your friend, don’t fight the tape.” The other rules keep changing, to mess with our heads. So we need to be adaptable.

Being adaptable, and making small tactical changes, helped us dodge a bullet last week. But I can’t take credit. It was pure luck.

Here’s how that went down.

One of the picks (SPLK), which stands for “splat,” or worse, dropped a surprise turd on the Street with its earnings call after the bell on Wednesday. Our planned entry time was 9:45 AM Thursday with a Do Not Enter Stop of 192. It opened Thursday way, way below the stop price. At 9:45, the planned entry time, the stock was trading around 153, after closing on Wednesday around 205.

Phew! We dodged that! Had we entered on Monday, the loss as of Friday’s price would have been 23%.

But what about stops you say? Stops are no defense against earnings turds. These things trigger such rapid, explosive market diarrhea that the price gaps the stop. We’ve already had that experience once before.

In view of that, I propose an entry rule designed to avoid earnings turds. The model will check to see if a prospective pick has an earnings call scheduled within 10 calendar days. If it does, I’ll avoid it.

My swing trade chart picking philosophy is technically based. TA is not perfect. It does not know everything. Shit happens. TA often does not foreshadow bad earnings surprises.

Besides, we’re not trying to trade earnings calls. I have no way to guess who’s going to have great earnings, and who’s going to drop a turd. Other people may do that and do it well. It’s not what I do. So I’m going to stay away from that kind of inordinate, unpredictable, uncontrollable risk. I’ll do so by avoiding bets on who may or may not have good or bad earnings coming within less than the typical minimum holding period of successful picks.

Meanwhile, the decision to delay entries and use a price bracket for whether to enter or not isn’t perfect either. Besides helping to accidentally dodge a bullet, it also cost us some gains. Had we entered SNPS on Monday, we would have been ahead 5.1% on that at Friday’s close. Ditto PKE, up 9.4% from Monday at 9:45 to Friday’s close. But these would not have been enough to fully offset the splat in SPLK.

Here’s a summary how it went for the stuff we avoided.

Chart for subscribers only.

From that small sample, the verdict is to avoid stocks that are due to report earnings.

There’s a good reason for taking a close look at this. We need to know what we missed out on. We need to know what worked and what didn’t, to make a judgment on whether to keep following this strategy, or to make changes.

I’m sorry, but trading models are not immutable. A system can get hot. Then it’s not. Even the best hedge funds with the greatest AI run algos and fabulous supercomputing setups have missteps where they lose money for a period.

Without massive backtesting, I don’t know if this is the best way to handle this, but my gut says it’s better than the alternative. We know that stops can’t protect us. They get gapped when this stuff happens. By avoiding these 15-20% overnight crashes the best we can, such as not entering any position where an earnings report is due imminently, should work better.

OK! We avoided getting hit with the falling turd on this one. Accidentally. So it’s good to be good, and better to be lucky. Not only should we learn from our mistakes, but also when there are lessons inherent in our good fortune. Next time it won’t be luck. It will be use of the knowledge gained from that luck.

To review, for the week, the average gain rose to 10.3% with an average holding period of two and a half weeks – 18 calendar days – as of Friday.

Table for subscribers only. 

Amazingly, UAL, the one stock left from Pfizer day when we had forced entries on enormous upside gaps, has not only recovered, it has done quite well. I was hoping just to minimize the loss. Now the goal is to protect the profit.

It’s also time to think about harvesting profits, so I’ve tightened stops based on cycle line projections on the charts. I have also added information to the list on the amount by which to increase the stop level each day (PPD-points per day). This tactic will keep those picks open that are still within the trend, and close out those that break.

The current performance compares favorably with the previous week which showed an average gain of 4.8% with an average holding period of 11 calendar days. As the average holding period grew this week, the gains accelerated just a tad.

When trends start going parabolic, we must think in terms of, “Gee, this feels close to a top. Let’s add some shorts.” We’ve done a few shorts along the way, and they haven’t worked. This week the screens gave me nothing on the short side. Sorry about that.

There were a few stocks in the screen output with short term sell signals, but virtually all of them came from strong uptrends. So thanks, but no thanks. I want to short stocks that do not feature rising trend support. These uptrends tend to make shorting those stocks a very rough ride at best, if not an exercise in abject futility.

There were 77 potential longs to view from the screening of 600 big cap stocks. Of those I chose 4. They look like late cycle picks, and this could be the end of the line for them, a possible sucker play. I’m prepared to scalp or take losses, hopefully small, on these, but I will let the trend and cycle indicators do their work without imposing my feelings about them.

New picks table for subscribers only.

I’m adding the 4 new picks conditioned on being above their stop prices as of 9:45 AM Monday. I’m foregoing limit prices this week. If all 4 picks are above their stop prices, it will leave us with 14 open picks, all but one of which will be longs.

It certainly seems like end stage exuberance. But that can last for a few months.

Technical Trader subscribers click here to download the report, including this analysis of chart picks, and the broad market trend condition, outlook, and price projections.

Not a subscriber? Follow Lee’s weekly swing trade chart picks with Lee Adler’s Technical Trader, risk free for 90 days!  

These reports are for informational purposes, designed for a broad audience of investment and trading professionals, and other experienced investors and traders. Chart pick performance changes week to week and past performance may not indicate future results, as you know. Trading involves risk, and these reports assume that you understand those risks and manage them according to your tolerance. 

The Big Dealer Leverage Brainfart

Sometimes the mouth goes faster than the brain.

I chat with Lindsay Williams on his Strictly Business Podcast, once every couple of months. When I spoke with him on Thanksgiving Day I said something that I immediately realized was wrong. I said that there’s no way to know how leveraged the Primary Dealers are in their bond portfolios.

Of course, that’s wrong. The New York Fed publishes enough data every week for us to figure it out. So I set to figuring.

The question is how to put that data together in a meaningful way. There’s a lot of it, and a lot of figuring, rumination, trial, and error to be done. This is just the first installment.

What I can show so far is not earth shaking. We already knew intuitively that the dealers are leveraged to the hilt, and therefore in grave danger if bond prices fall below a certain level. We don’t know exactly what that level is, but at some point, soon I think, they’re going to face calls from their unindicted co-conspirators for more collateral.

It’s 2 PM. Do you know where your margin man is? You know. The guy with the tire iron.

So below is the first chart that I painted with the data. It shows the level of dealer net Treasury repo borrowings versus their total Treasury holdings. Surprise, surprise! They correlate!

I’ve been reporting to you their total repo borrowings before this. Those totals have been in the $1.75 trillion range, which is about 8 times their total Treasury holdings. That would be like you having a $3 million mortgage on your $400,000 home. OK. It doesn’t work.

They’re not just borrowing to support their Treasury inventories. They’re also banks. They lend. Most of that borrowing is to finance their lending activities. So I ran their reverse repo operations, where they take in securities as collateral for lending cash to degenerate gamblers like me and you, but mostly the big hedge fund wiseguys in Greenwich, Palm Beach, and the Upper East Side.

Netting that lending activity out leaves us with their net cash borrowings, which should in theory bear some relationship to their Treasury holdings.

Not that their loan sharking activities are without risk. But this is the big boy, in my opinion—the net leverage on their Treasury collateral. It’s like your margin account, except it’s not 50% margin. It’s more like 75% to 200%.

Since the Fed took over the bond market in September 2019, buying approximately 85% of all new Treasury issuance, on average, the ratio of dealer net borrowings to their Treasury holdings has stayed pretty close to 100%.

Why isn’t that a problem? Because, Praise the Load, Jaysus of the Church of the Fed is backstopping them. But despite the fact that He has been relieving them of some of that inventory since May, the dealers keep increasing their leverage.

This report includes that chart, along with what it tells us about present conditions, what to expect in the near future, and what we should do about that.

Subscribers, click here to download the report.`

KNOW WHAT’S HAPPENING NOW, before the Street does, read Lee Adler’s Liquidity Trader risk free for 90 days!

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In Weakness, There is Strength, and Other Gibberish

In view of the liquidity outlook, I’m on the lookout for a support test in the first half of the week. Pre market futures suggest that the market is on track for that. The futures tested the 3600 area in the pre market.

The market maintained a shallow uptrend last week. The S&P stayed in the upper half of a weak uptrend channel. The channel has a slope of +4 PPD. The centerline will start the week at around 3623 and rises to approximately 3643 on Friday. That line is initial support. A couple of old intermediate channel lines around 3610 also mark potential support. The bottom of the short term channel starts the week around 3560 and rises to 3600.

This report illustrates where the cycle indicators show the market to be headed.

Technical Trader subscribers, click here to download the report.

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I’m adding 5 new picks conditioned on opening within the price bracket at the time specified on the table. 4 of those picks are longs, and 1 is a short. If all 5 picks meet their entry conditions, it will leave us with 16 open picks, of which all but one will be buys. That’s extraordinary and, may I say, scary.

The list showed an average gain of 4.8% with an average holding period of 11 calendar days last week. That was despite getting stopped out of 4 new picks on the short side almost instantly, with losses ranging from 2.1% to 9.2%.  That was offset by solid performances from the winners, all on the long side.

Chart pick performance changes week to week and past performance may not indicate future results, as you know.  Trading involves risk, and these reports assume that you understand those risks and manage them according to your tolerance. These reports are for informational purposes for experienced investors and traders. 

Here’s Why More QE Won’t Be Enough for the Markets

Here’s the problem. When rates are falling, there are more sales, and especially more refi. So the prepayments go up, and the Fed sees a greater reduction in its MBS holdings. Those reductions had been running at the rate of $65-70 billion per month through last month, based on the prepayment rate in the market in prior months. The Fed then bought that much from the dealers in the following months.

As always, those settlements were held in the third week of the month. The Fed would settle a total of $100-110 billion in prior forward MBS purchases that week, and the dealers would suddenly be flush with cash.

Good thing too. Because the 15th of the month is when the Treasury issues a pantload of new notes and bonds. The amount of Fed MBS purchases typically provided enough cash to the dealers for them to cover nearly all of the Treasury issuance. They could either buy it outright, or provide the repo financing to customers so that they could buy it. Then there was even some left over for them to play markup games with their equities inventories.

But mortgage rates have been rising since August. Prepayments are falling as a result. Home sales are holding up, but refis are cratering. As a result, the nearly final figure for the Fed’s MBS settlement in mid December is only $69 billion. That’s $30-40 billion less than in recent months.

At the same time, the TBAC says that the Treasury will issue $98 billion in new notes and bonds on December 15. The day before, the Fed’s MBS purchases will only total $52 billion.

That’s a problem. But there’s an even bigger problem next week. And an even bigger problem after that when the US Government passes new stimulus. Here’s why, and what to do about it.

The facts, figures, and outlook are reserved for subscribers. Click here to download the report.

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Baby Bears Have No Chance Against This Stampeding Herd

The market started a baby downtrend channel last week. The top of the channel will open on Monday at 3572. Here in the premarket around 5:30 AM in New York, that trendline was being challenged as, once again, Asia and Europe have rallied. This report shows you what to look for this week as it affects the longer term outlook.

Meanwhile, the after effects of the disastrous Pfizer gap of November 9 are receding and list performance is recovering nicely. The average gain rebounded to +5.6%, with an average holding period of 11 calendar days.

I have adjusted trailing stops on all but one pick. All ten existing picks are longs. I’m adding 6 new picks this morning, including 4 shorts and two longs. Entries will only occur within the order price brackets, and, if so, are assumed to take place at 9:45 AM. With these gap openings becoming common, that has been a better entry time in the morning.

Technical Trader subscribers, click here to download the report.

Not a subscriber? Try Lee Adler’s Technical Trader risk free for 90 days!  

Chart pick performance changes week to week and past performance may not indicate future results, as you know.  Trading involves risk, and these reports assume that you understand those risks and manage them according to your tolerance. These reports are for informational purposes for experienced investors and traders. 

The Passion of Jaysus

Jay Powell’s first order of business is to keep the bond market from breaking down. When the 10 year yield hit 0.975 last week before backing off, the market was at the edge of the abyss. Leveraged dealer bond portfolios were on the brink of disaster.

Signs of a weakening non-recovery rescued them. Traders sold stocks, which freed up enough cash at the margin to bring bonds back from the brink.

Because of that, the Fed is ok with the weaker economy narrative for the time being.

Jaysus saves the bond market first. Stocks are just the saints of this religion. They get their share of worship. But the bond market is the Cross, the Torah, and the Koran all rolled into one. It is the focus of the worshippers. It is the altar upon which the really big money acolytes pray.

So the Fed looks at signs of weakness with relief now, because it sends the big donors in the pews. And the small part of the collection plate that the Fed doesn’t fill, those donors keep filling. And Jaysus keeps saving. Or so it appears.

But this seeming miracle is an Act that won’t work for long. Because if too many worshippers reject the saints of stocks, Jaysus himself runs a similar risk. If the flock loses faith in Him, the Church of the Fed will collapse. The bulls will all die and burn in the fires of financial market hell.

As for the bears, it’s too late. They’re so dead, they’re beyond resurrection. Nobody is short the market.

In the end, only liquidity matters. The Fed can create liquidity, but an economic narrative that leads to selling of any asset class can destroy that liquidity just as fast, or faster, than the Fed creates it.

So for that purpose we keep an eye on a few real time economic indicators that few others are watching, to keep us abreast of how the Wall Street economic narrative is going to play.

We’ve known for a couple of months that the “recovery” was a non-recovery. The Wall Street mainstream is starting to catch up with that.

This report updates us on what’s happening now in Federal tax collections, and therefore what the narrative is likely to sound like in the weeks ahead. It prepares us to be ready to act ahead of the most likely scenarios in the financial markets.

Here’s the bottom line.

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Available at this link for legacy Treasury subscribers.

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Another Liquidity Indicator Shows Stocks Being Oversold – Wait, What?

Yesterday we looked at the overview of the CLI and the issue of new and secondary stock offerings. The CLI is still bullish. And the supply of new stock issues has not been sufficient to absorb enough of the demand to stop the advance of stock prices, although it has probably contributed to slowing the rise. Likewise, new corporate debt issuance, while massive, hasn’t been sufficient to pull enough of the demand for securities to cause a reversal of the rise in stock prices.

In this Part 2 of the report, I cover the remaining interesting and important indicators that comprise the CLI. Each has its own story to tell, but they all lead to the same conclusion. Still bullish, and, unbelievably, one key component says that the stock market is oversold.

I find it difficult to wrap my head around that. But I won’t argue with it. If there’s one thing I’ve learned in 53 years of watching markets virtually every day, it’s not to argue with impartial indicators. They don’t care what I think should happen. They just show what is happening.

So here we are. The Fed is creating enormous amounts of excess liquidity, “liquidity” being a fancy word for “money.” I use the words interchangeably.

The Fed is creating that excess by pumping money directly into the markets via its POMO operations—buying bonds from Primary Dealers and paying for them by crediting the dealers’ accounts at the Fed with newly imagined money. That leads to secondary effects of increasing money in the system via credit growth, particularly increasing margin credit that results from rising securities prices.

This works, and will continue to work, for as long as the players have enough confidence in the game to keep buying. This keep pushing prices higher, increasing the value of collateral. That, in turn, allows for and promotes ever more credit creation. It’s the quintessential nature of bubble finance. Circular, and more. Always more.

There are those who say that this isn’t sustainable. There are also those who say that an expanding universe isn’t sustainable, that it will collapse in on itself.

In a few trillion years.

I’m agnostic about whether this must finally end in collapse within the foreseeable future. I assume that it will, but I sure as hell don’t know when. So I’ll just operate in the here and now, and respect the trend. We’ll always be alert for signs of change, but at the same time, never forgetting Rules Number One and Number Two.

Don’t fight the Fed.

The trend is your friend.

Meanwhile, as Yogi said, you can observe a lot by watching. I’m confident that by always being vigilant, and open to anything, we’ll be ready just in time to take advantage of, or at least protect ourselves from, whatever is to come.

Now to the indicators.

The facts, figures, and outlook are reserved for subscribers. Click here to download the report.

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