November 30, 2016

Retail investors have come back in the markets

The Trump rally has carried the small-cap index and Dow Jones Industrial Average to new highs and the Nasdaq Composite and S&P 500 close to new highs.

However, looking under the hood discloses a change of leadership and more of a mixed picture. Indeed, conflicting group performance is as great as the last time we observed it--back in the first quarter of 2000, when tech screamed higher as consumer and industrial stocks faltered.

By March 2000, at the near end of that year's first quarter, there was an inflection point in which tech cracked and many of the out-of-favor groups began to recover.

March 2000 marked a major change in leadership and market direction.

To me, the extended tech bull market that came to an end in the first quarter of 2000 compares to the extended bond market run, which seemingly came to its conclusion four months ago. Recently the crack in bonds has accelerated, signaling a major shift in the three-decade bull market in bonds--something I have described as a Generational Bottom in Bond Yields.

The Trump victory has produced selling in bond-equivalent stocks and buying in financial and industrial stocks.

The questions at hand are (1) whether the new leadership is simply an election-related bump or something bigger, and (2) whether this leadership change is occurring (as is typical historically) to a bear market.

Much will depend, in my view, on whether the rise in yields is sustained and whether the rise in interest rates becomes a threat.

We do know that retail investors have returned in size. The total amount flowing into equities and ETFs of $45 billion was only exceeded in mid-2007--a poor time to buy stocks. The AAII (American Association of Individual Investors) bullish reading is the highest in 23 months.

The contrarian would be concerned about the sudden public affinity with the equity markets in such a brief period of time.

I do have a view that the magnitude of the gains in the market-leading groups may be too quick to be sustained. To make the Brexit analog, that rally lasted a total of three weeks (a week beyond Wednesday's two-week celebration of a Trump victory).

Bottom Line

Momentum is strong and the excitement is palpable, but I don't see a runaway leg of the 7-year-old Bull Market as the prospective fundamentals and elevated valuations do not support such an advance.

Position: Long SDS large; short SPY, IWM small 

via thestreet

November 23, 2016

Bought shares in Trevena

I bought some shares in biotech Trevena as insiders have made some recent purchases and company has a Prescription Drug User Fee Act date in the first quarter.

Those looking for a contrarian investment play might want to look at Mexico. The iShares MSCI Mexico Capped ETF (EWW) is down some 15% since the election.

Personally, I don't think anything major will change between countries despite the campaign bluster.

Position: Long CARA, TRVN.

November 21, 2016

Importance of contrary thinking

Let's begin this morning by considering and examining some possible contraries--some that I embrace, some that I don't embrace--and how markets may be impacted. Many of these contraries are obviously emanating from political uncertainties.

Some of the following outliers and non-consensus developments should be used as food for thought:

Interest Rates: 
Back in July, I called for a Generational Bottom in Bond Yields. I received a consistent Bronx cheer from the stands for this forecast, as many that previously had seen a spike in rates over the last few years now saw rates low forever. At that time back in early July, the 10-year U.S. note yield bottomed at 1.32%. This week the 10-year U.S. note yield hit 2.30% and, after an increase in yields of 100 basis points, the consensus is firmly now in the higher interest rate camp. (As an example, some vocal observers such as Mark Grant, who had been looking for a 1% 10-year yield weeks ago, is now assuming rates will climb higher). Should the new Trump administration's promised goal of more rapid economic growth be delayed or fail, rates will head right back down and yield spreads would flatten anew. (This morning the 10-year note yield is slightly below 2.2%, down by two basis points). Note: I believe that, at least over the short term, a long trade in bonds might be ahead.

Sector Strength: 
Lower rates would have broad sector implications. As an example, everyone's new favorite--bank stocks--would turn back down after a rip-roaring post-election move. Industrial stocks also would fall back to earth.

The Economy: 
How about the impact on the consumer of a $1 trillion bond market loss in the last month? Or an adverse impact of climbing rates on the refinancing market? How about the Trump transition? Again, should this transition be less smooth or meet opposition, any assumed economic benefits also would be delayed. So, what if the economy slows down further in the months ahead and we have seen a top in yields for months to come? What if it becomes clearer that the consensus 2017 S&P earnings forecast is way too optimistic for what would be the fifth year in a row?

Secular Growth Threats: 
Neither the Democrats nor Republicans are addressing the intermediate-term structural issues that are a threat to growth and create disruptions in the jobs market. Maybe the Republican policy implemented provides only a temporary relief to longer-term problems and the markets could see right through this, and falter.

The Trump Presidency (Part One): 
Suppose as the economy is weakening, growth-encouraging policy and tax policies are slow to be introduced? At best there will be a hiatus, as implementation of these policies becomes a late 2017/early 2018 event.

The Trump Presidency (Part Two): 
Is a brief presidential honeymoon ahead? Though a minority, some critics are more concerned with a disorganized Trump administration, characterized by authoritarian impulses, cronyism and incompetence. After all, the office's power is immense and the president is the most powerful person in the world. For now there is some expected in-fighting within the Republican Party. As yet there have been no roadblocks placed by the Democratic Party (even opposition to Steve Bannon has been limited) amid an incoherent process, but this, too, could change more quickly as the Democrats conceivably could get their act together.

The Trump Presidency (Part Three): 
Suppose Trump's tax cuts, if implemented, are a failure and don't trickle down, but, once again trickle up? Suppose his policy does Make America Great Again, but is restricted to the One Percenters? Then what happens to Trump's popularity when the middle class he wants to be elevated is demoted and not restored, again?

The Trump Presidency (Part Four): 
Finally, in a broader sense, there is still a legitimate question about Trump leadership and his ability to govern coherently. The President-elect's ability to govern is totally untested--even his defendants recognize it requires a leap of faith. Trump may be determined but, with little background in government, the new administration's governing philosophy is not yet recognizable. As I have previously expressed, we don't yet know how Trump will govern; this makes things of a market-kind uncertain.

The Democratic Party's Opposition: 
The Democrats, like the Republicans, have their own set of problems as they are caught in their own cul-de-sac. Facing a bleak few years, the Democratic leadership is old and there is a lot of tension. It is uncertain where the next leadership comes from, but should the Dems get their act together while there is some Trump administration delays, the opposition could have more impact and a more forceful policy influence on the Republicans. In other words, the Democrats may be down but not out, and how much of the Republican policies ultimately will be implemented is a big question mark.

Facebook and FANG: 
Facing its second significant issue in a month, the consensus favorite stock could disappoint in the months ahead. Maybe Facebook is a better short than long. FANG stocks may continue to be weighed down by fears of trade wars, a stronger currency and other threats to world trade.

The yellow metal is a hated asset. What if gold is the buy of the decade and breaks out under the aforementioned U.S. political issues?
The U.S. Dollar: 

Buoyed by confidence in pro-growth Trump initiatives and a Fed rate hike, our currency is strengthening. If economic growth slows and the U.S. dollar's strength continues, might we again have to ratchet down forecast global and corporate profit growth for 2017-2018?

Consensus is for a slow increase in inflation. Suppose the pattern is quicker? Are the markets (bond and stocks) prepared for this?

The Year-End Rally: 
Everyone every year expects a year-end rally, and 2016 is no exception. But suppose that large hedge fund redemptions are much greater than expected. Who is left to buy to offset that selling?

We haven't had a giant company fraud, a meaningful hedge fund fraud or any other fraud for some time. Suppose something comes up? I have a hunch about one big one. Stay tuned!

I have some more contraries, but I will wait for my 15 Surprises for 2017 next month.

via thestreet

November 16, 2016

Passive investing could to mediocre performance

Though a few paragraphs are not enough to explore the active/passive debate, I will make some observations and conclusions.

Passive investing has begun to dominate active investing over the last five years. This should not be surprising, as:

-    Retail investors have faced two large drawdowns in the market averages, in 2000-02 and in 2007-09. As well, many popular (and low-priced speculative) stocks have burned individuals.
-    Institutional investors have also fared poorly. Mutual funds have materially underperformed the averages. Hedge funds have failed to "hedge" during The Great Decession and, more recently, many have glommed unto many of the same doomed stocks.
-    In a low-return setting, high fee active managers have suffered versus lower-cost passive competitors and have lost market share.
-    Quant strategies (volatility trending and risk parity trading) have upended the institutional money management business, taking inflows away from dissipated active hedge funds that are collapsing these days like cheap suits.

With the passive tide coming in and the active tide moving out to sea, the latter appears to many to be swimming naked.

To some degree, the flows into passive vehicles resembles the preference and inflow surges into "risk-free" bonds over "risky" equities, which are astonishingly occurring at a time when interest rates are zero or lower.

That commonality -- of passive over active and bonds over stocks -- should warrant caution and could represent, as I have written, one bubble forming and another bubble about to be pierced in fixed income.

You Get What You Pay For

From my perch, choosing to save money by spending less for active management in order to improve results is an ass-backwards approach that historically has backfired. By implication, it negates the search for value, which is at the core of some very successful long-term investors such as Warren Buffett, Benjamin Graham and David Dodd, and the underlying precept that superior investment management is not worth the effort.

But, as it is written in Ecclesiastes, to everything there is a season. Or, as I have often written, mean regression is the most common feature of economic cycles and in human behavior.

While we may not know how extreme a cycle will get, we damn well have learned that an extreme in one direction always leads to another extreme in the opposite direction.

The speculative move in the 10-year U.S. note yield to 1.35% in early July 2016 is arguably one such historical extreme, just as the near-20% bond yields of the early 1980s was another extreme. Indeed, looking further out in history and starting at the end of World War II, we have had two separate 35-year cycles in a row in fixed income -- both likely ending in extremes.

Conditions Are Ripe for Change

One characteristic that cycles and human behavior share in common is that
acceptance is a feature near the end of every one of those cycles. That helps to explain why being premature in anticipating a cycle's end can be as expensive an exercise as being caught in the turmoil that accompanies a trend change.

This also helps to underscore the value of passing up (as the extreme compounds) on some potentially large gains that occur at the end of a speculative move (e.g., in tech stocks in late 1999/early 2000 or bonds now).

Remember, new paradigms are, more often than not, not the "new normal." Rather, they are a figment of investors' imagination and a manifestation of their greed and herd behavior.

Passive Investing Is the Path to Mediocrity

From my perch the present fondness and popularity of passive computer-based investing is another cyclical extreme that we have seen in other asset classes over the years.

Diminishing the value of active money management and research and raising the value of less expensive and less time-consuming "robo investing" and/or algorithmic trading that exploits minute price inefficiencies also raises the risk of crowd/herd behavior, which has been prevalent at previous market tops (e.g., portfolio insurance in 1987, the 1997-2000 tech boom and, finally, in 2007, which lead to The Great Decession).

I have been of the view (anticipatory vs. reactionary) that this sort of crowd behavior is much better played against than rewarding in itself. But, more importantly, I will almost guarantee that, in the fullness of time, an association with passive investing will lead to mediocrity. And, I promise you that active management delivering fundamental Graham and Dodd analysis, which gives recognition to private market value and is not agnostic to balance sheets and income statements, will be rewarded.

Emerging Evidence of a New Dawn for Active Management

The fact is that, even as the momentum of passive and algorithmic investing intensifies, we already are seeing a sharp contrast in strong and weak groups/stocks. Just look at consumer discretionary versus technology, bank stocks versus REITs, Facebook (FB) versus Twitter (TWTR) , and so forth.

Passive investing is not currently capturing this distinction and active management has begun to produce better results over the last few months. This development, in and of itself, when clearer to investors, could slow the trend away from passive toward active investing.

But, herds operate together and are slow to deviate in behavior until it is more obvious.

Bottom Line

To everything there is a season.

Passive investing may be cost-efficient, but it ultimately will lead to mediocrity.

While every investment selection process has its pitfalls and weaknesses, the emphasis on delivering a low-management, fee-based passive product is ultimately doomed and, in the fullness of time, again will be replaced by a growing, differentiated and active investment process.

November 14, 2016

Trump victory could be good for volatility

A Trump victory has made volatility and uncertainty great again. This is my overwhelming investment take from the 2016 election.

Given the developing policy uncertainties, the degree of congressional cooperation and questions regarding Donald Trump's ability to execute and to deliver on his policies, the president-elect's unknown leadership skills, issues regarding his Cabinet and Supreme Court appointees and numerous other uncertainties, owning and holding long-dated assets (both bonds and equities) is now a questionable strategy.

More than ever, an opportunistic trading strategy should trump the buy/hold crowd in the months--and maybe years--ahead.

Get your trading hats on, as the only certainty is the lack of certainty.

November 10, 2016

Housing peak ?

Sales of durables (as seen at Whirlpool, PPG and others) are probably peaking, as is the housing turnover that drives them. In Miami/Dade County, the epicenter of housing speculation, we are back to a three-year supply of condos at the current rate of sale. Some bad paper is undoubtedly out in the market and banks are tightening credit. As one banker told a friend of mine, "Money is cheap unless you need it."

If one looks at the weekly new high list of stocks, the consumer sector is suffering. There are few consumer stock 52-week highs and many at new lows. Much of this malaise is now beginning to be priced into the sector, where multiples are well below historic ranges.

November 9, 2016

Strong dollar hurting luxury market sales to foreigners

Things are reasonably fine. Yes, insurance and other prices are rising, but employment is good and wages are rising. In Las Vegas, as an example, it is clear we are at or near full employment. 

Consumption in the U.S. by foreigners, which counts in GDP, is awful. The U.S. dollar is strong. This is killing the luxury sector, especially in Miami and New York City. At the margin, this is impactful. 

On the other hand in NYC, while shopping at Christmas for luxury goods you may be able to hear English in the stores. In the last few years it has been difficult. It will also be less crowded, but for out-of-town guests, hotel prices may get back down to earth.

The worst may be priced into the stocks. For example, Macy's looks like it has bottomed and it is reasonably cheap. The company reports in less than two weeks.

September was the warmest in 35 years and October was probably close. In Chicago, at least until Nov. 15, temperatures will remain above 55 degrees. This is killing the apparel business and hurting other businesses as traffic for shopping is down

The weather eventually will cool, though not before a lot of markdowns are taken, and the Christmas calendar is optimal. The fourth-quarter retailing comparisons are easy. Results for retailers will be out before the next Fed meeting and may impede any rate reduction. This, of course will make it tougher for the financial sector.

While the "Curse of the Billy Goat" has been lifted, the "Chinese Curse" remains: "May you live in interesting times."

November 8, 2016

Amazon is taking retail by storm

Amazon is killing the industry. Amazon's retail sales in the U.S. are expanding at a $10 billion annual rate. The company's retail efforts are a public service. It makes little or no money on them and with Amazon Web Services it will never need to do so. 

It is now even hurting the auto parts industry. 

CEO Jeff Bezos is constructing 30 distribution centers in the U.S. At the peak of its growth, Walmart added one such center every two years. Near term, the AMZN threat will only get worse. It is now the nation's leading apparel merchant. Few would ever have predicted this. There may be nothing it will not sell.

November 7, 2016

Valeant Pharmaceuticals facing many headwinds

A while ago, in my initial negative assessment of Valeant Pharmaceuticals, I concluded with the following strongly expressed and cautionary messages:
"I believe that at best, Valeant's planned asset sales will yield demonstrably lower earnings power than the current consensus calls for. I think these sales will also lead to formidable asset-impairment charges. And, at worst, I think Valeant could fail ... and that its share price could fall to zero."

Jim "El Capitan" Cramer and I often (respectfully) disagree on many market subjects. But, for some time, we have consistently been in total agreement on the dismal prospects for Valeant.

Jimmy re-emphasized his ursine view of VRX in a succinct analysis, "With The Election Coming, Valeant's Problem is Increasing."

I would continue to avoid the shares of Valeant as I do not see how the company can overcome the political, financial, operating, balance sheet and other company-specific headwinds facing it.
Position: Short BRK.B small

November 2, 2016

Leveraged ETF's may lead to underperformance over longer time periods

As I have repeatedly written, leveraged ETFs are for trades and not for long-term leases. (Rebalancing is value-destructive and leads to premium decay and poor tracking over lengthier periods of time).

I remain in an opportunistic trading mode (witness Amazon and others) in an attempt to ring the register more frequently in a market filled with uncertainties.

So sorry, Hayden, Rubin and Hoffman--less SDS, less anarchy and a reduced exposure.

Position: Long SDS small