THE HARD TRADE

2016-11-04 12pm EDT  |  #stocks #VIX #BREXIT #election #CEF #Closed End Funds

BREXIT caught a lot of investors off guard. After weeks of dismissing the polls (which were consistently showing the race much tighter than pundits believed), the reality that the British public would actually choose to leave the EU sunk in and forced investors to panic in a desperate attempt to realign their portfolios to the new reality.

This lesson has not been easily forgotten. Fool me once, shame on you. Fool me twice…

The US election’s potential similarity to BREXIT has investors determined to not make the same mistake again. So whereas last time few hedged ahead of the BREXIT vote (after all, everyone knew it would break for “remain” at the last minute), this time everyone is hedging.

The VIX is up something like 8 days in a row, a feat not seen since the 2008 credit crisis. And although the decline has been orderly, stocks are looking sicker than a bunch of newbies on their first rough seas boat trip. Even companies releasing decent earnings reports are getting unceremoniously shot. A couple of days ago previous hedge fund darling Facebook met and exceeded earnings expectations, but guided lower. Instead of taking this as a sign of sandbagging future earnings reports (something the market would have done six months back), Facebook was taken out back.

There seems to be absolutely no reasons to buy stocks, and tons of worries encouraging investors to write a bunch of pink tickets.

But here is the real question investors should be asking themselves. Is this decline the start of a larger correction, or merely selling in front of the uncertainty of the US election?

I am not sure. Too often I assume the markets are more efficient than they end up being. Big changes take a while to be priced in. The US election is potentially a destabilizing event that could introduce a tremendous amount of uncertainty.

Although I understand the bears’ arguments, I wonder if we are reaching the point where it’s all baked in. How many big investors have raised cash in anticipation of buying the break? I don’t think there is anyone proclaiming this election is inconsequential and quickly forgotten.

So even though the comparisons to BREXIT are tempting, I do not believe the market’s reaction will be the same.

I sold my VIX longs a couple of days too early, and I had said I would remain more on the sidelines in front of the election, but I can’t help myself. On a trading basis, I think the long side of the equity market is worth a shot in here.

We are approaching the 200 day moving average in the S&P 500.

Although I am not a huge technical disciple, over sold markets often look for levels to rally off of, and the 200 day moving average might prove to be that springboard.

One of my new friends was kind enough to bring to my attention a great piece on Seeking Alpha by Douglas Albo. It’s titled “Equity CEFs: Are we getting close to a washout stage?”. Doug highlights the recent intense selling in the Closed End Funds square:

I’m in New York and will be speaking at a CEF conference sponsored by the Investment Company Institute (ICI) today, but I did want to comment on recent CEF activity.

Yesterday was a brutal day for equity CEFs. There seemed to be minimal bids but plenty of sellers as fear reared its ugly head. I will say that this is not unprecedented, and I could go back four years to November 16th, 2012, when I wrote the article “Equity CEFs: What To Do After The Bottom Falls Out” after equity CEFs had a horrible 2-day period but which proved to be an excellent buying opportunity.

All the buyers have stepped away from the equity markets.

I stumbled upon this tweet from Frank Zorrilla that summed up the situation perfectly:

I agree with Frank. The market is hitting levels from where we have traditionally bounced, yet so far there has been no sign of the slow methodical selling stopping.

There has been no panic, just a constant large liquidation of risk assets.

It is Friday morning, and although it is not getting the attention it deserves, the US unemployment number is due out in an hour. I have no clue what it will say. If I had to guess, I would err on the underwhelm side (new claims have been ticking up), but that’s just a guess.

But I think most large institutions are done selling their equities in front of the election. These institutions need liquidity. They cannot wait until Monday or Tuesday to sell, they need to have it done this week. And given that today is unemployment Friday, they probably erred on getting more of it done before the big release.

So although I am unsure about the unemployment number, I think it makes sense to wait until the dust clears and buy stocks mid morning. I know that seems like a stupid call - after all stocks are trading like dog shit. Yet the hard trades are often the right trades. And I ask you, what could be a harder trade than buying stocks into a bad unemployment report after this week’s terrible price action?

Thanks for reading and have a great weekend,
Kevin Muir
the MacroTourist