Titan Investment Partners – Why we have moved to a maxImum net short position in equities
Following on from our bull call on the mining spectrum (see here – https://www.spreadbetmagazine.com/blog/titan-investment-partners-why-were-backing-the-mining-sector.html) we now lay out our argument for a net short position on the US equity market going into 2014.
We began actually building a short position here at Titan during October of 2013 and traded this stance nimbly, taking quick profits on pull backs (and which were very short-lived ones). Although we believed that US equities, in particular the technology arena, was and is very richly valued and extremely vulnerable to a correction, we tempered our short stance as the quarter drew to a close. Momentum behind the market was too strong to stand in the way of.
However, with the S&P 500 (the primary focus for us of a short position; preferring to go straight to the “organ grinder”) now trading at 1840 and having rallied nearly 80 points in just 7 trading days, temptation to take the other side of this trade has gotten the better of us.
To go short here is hard, but what we have learnt in the markets over the last 20 years is that the hard thing, more often than not, is the right thing to do. If you have a view, and you enter the trade appropriately from a leverage perspective, then as a money manager you have to back your view. The key then is to be patient.
And so, in the dying days of 2013 with the US markets up 7 days in a row on ever falling volume, the VIX index nearing its 52 week low and so option premiums at cheap levels (from a buyers perspective) we have, in our Macro fund, moved to a net short position strucutured via an option strategy.
S&P 500 at a record extension from its 19 month EMA
Take a look at the chart below which is the S&P 500 monthly measure over the last 20 years and with 2 key indicators incorporated – the 19 month exponential moving average (which weights towards the latest months price action) and the momentum indicator. I have drawn in with green lines the prior occasions when both the momentum measure was as high (in fact the measure now is the highest of all) and when the index had deviated from the 19 month moving average by around 15-20% (it currently sits around 1540 with the index poised to open today at around 1845 and so we are nosing near 20%).
S&P 500 20 YR MONTHLY CHART
Notice anything? In pretty short order the index has snapped back on each occasion over the last 20 years that these conditions have been in place and over the ensuing months come to re-meet the 19 month ema. In fact, the momentum indicator is now even higher than at prior peaks and the stretch from the key 19 month ema is also at a new extreme. That in itself of course does not mean that the index will make a volte face and crash but what it does tell us is that we are in unchartered territory. The last time we saw such a similar move was with the Nikkei index and which was highlighted in this magazine’s blog (see here – https://www.spreadbetmagazine.com/blog/the-japanese-bubble-reaches-new-technical-extremes.html) back in May, literally days before the index fell nearly 20%.
Of course bulls will point out that “this time it’s different” what with the magnitude of money printing with daily Fed POMO’s (Permanent Open Market Operations) of $6-8bn providing a perpetual bid to the market as this money is recycled by the clearing banks into the US (and global) financial system. It is never different. Period. The laws of the markets namely supply/demand, overvaluation v undervaluation, mean reversion etc etc never change.
“Momo” stocks just seem to run and run. Until they dont…
Everywhere we look we see complacency. With the 10 year US bond yield now nosing 3% and the 30 year bull run in bonds that has supported a secular re-rating in equities likely well and truly over, for equities to shrug this off is mind blowing. Momo stocks like TWTR, NFLX, AMZN, FB et al deliver 5%+ returns seemingly every day and a new chorus of “anal”ysts get behind the ever rising prices of these widly overvalued stocks to justify the unjustifiable valuations. It can be said that the lunatics truly are in charge of the asylum now.
Take a look at the two tables below. The AAII is a measure of individual investor sentiment and the Investors Intelligence is a measure of financial advisers & commentators collective sentiment. In what is a stunning, but to us not shocking reading, the II measure is at the most bullish since the rally in stocks began in 2009. It always personally amazes me even with over 20 years investment experience that you simply cannot get people to buy stocks at lows and yet they trip over themselves at peaks to buy… If collectively the advisers were worth reading then we should see the largest bull bear spread at the market nadirs and the slimmest at the top. I have circled the market nadirs and it will come as no surprise to see that precisely the opposite is presented!
AAII RECENT SURVEY RESULTS
The AAII measure also reveals bulls of the market at a large variance from their historic average. Why is this you may ask? What is it in us humans that collectively makes us hard wired to buy at a peak and sell at a low? We are not behavioural finance experts here at Titan but would hazard a guess that the madness of crowds, the need to be part of a group and the fear of loss (ie having bought near a low and then seeing prices fall further people run for the hills – very similar to what we are seeing in the mining spectrum now…) contribute in large parts to this odd phenomenon. We prefer to buy at or near a low and sell at or near a peak. With the typical bull run being 3.8 years in length and this one nearing 5 years we fancy the odds, once more in our bear stance, are loaded in our favour now.
We present another table below from the Investors Intelligence stable and which use 4 measures to predict how close the S&P500 index was to a top going all the way back to 1963 when these measures were of a particular dataset. The 4 measures are a II bear reading less than 15%, the Shiller PE (an adjusted PE measure), the 1 year prospective PE and the RSI monthly measure. On all 4 measures we are now at an extreme.
Finally, we use a number of proprietary indicators here at Titan to time the markets, and a key component of this is the Put:Call ratio. We have extensive data going back several years and the figures that have been printing in recent days have previously been portents of market peaks. Admittedly, this measure works more at a market bottom (as evidenced here – https://www.spreadbetmagazine.com/blog/a-reminder-of-our-call-of-thurs-20-june-against-consensus.html) than at a peak, but still the measure is flashing red very loudly to us.
Global economic problems still remain
To conclude, with even the bulletin boards appearing to give up the ghost and throw in the towel on the bear tack, volume in recent weeks waning away, large insider selling in the equity markets, the “taper wobble” thrown off in minutes and the markets renewed ascent this last 2 weeks seemingly screaming “coast clear”; very few participants hedging the downside via options, margin debt at an all time high whilst still all the fundamental economic problems of the US, peripheral Europe and China remain exactly the same as it was 18 months ago, we need no further trigger to go against the crowd and sell an extreme overvaluation.
We leave you with one final chart and that is of the S&P 500 over the last near 90 years when technical conditions and valuations are similar to now. With one exception in 1935 the market made a material peak that took a number of years for it to surpass. History is there for one thing – to learn from and we intend to pay heed of its guidance.
S&P 500 80 YEAR CHART
Everything we have laid out here is typical of late stage parabolic advances. And pretty much all parabolic advances end in tears – just look at Bitcoin in recent days. As we said at the start, patience is now required for this call against consensus, a call of sanity and experience, to now come to fruition. Nobody ever rings a bell at the top (or bottom) but we believe we can hear a faint ringing…
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You should not take this piece as an advocation to trade in any of the instruments mentioned and should always take professional advice in relation to your own personal circumstances.
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