The Two Biggest Fears

Tyler Durden's picture

Submitted by Peter Tchir of TF Market Advisors,

I have two major concerns right not that I think everyone should be nervous about.  Actually I have lots of concerns, but most aren’t about the markets, and discussing them in this forum isn’t appropriate, so I will stick to my market related fears.

These are two risks that I see taking this sell-off further and faster than anyone else expects.

The Death of the Normal Curve

I think algo’s in general have had changes the distribution of returns.  That seems particularly true around the big Moving Averages.  Maybe it is just me, but I see so many conversations about the 50 DMA and 100 DMA these days that it seems that everyone is looking at them.  It might just be my streams, or it might just be that everyone really is that bored, or is looking for an excuse not to sell.

In any case, I think there are many more “entities” trading the moving averages (and other technical levels).  I think that has shifted the return distribution over time.

Let’s say in the good old days, there was a “normal” return distribution around the 100 DMA.  Since I am graphically challenged I will work with a very simple binomial distribution that illustrates the point.

Say there was a 75% chance of a bounce with a 0.5% profit, then there should have been a 25% chance with a 1.5% loss.  That would have created an expected value of 0.

People still trade it because they felt they had some other “advantage” that let them pick the bounces with a higher success rate.  Or pick those bounces that would generate higher returns.

Over time as more and more algos try to trade the same phenomena the success rate actually increases.

It becomes to some degree, a self-fulfilling prophecy.  If I am buying at the 100 DMA because it bounces and you are buying at the same price (for the same reason) then it is likely to bounce.  So what happens over time is the “win rate” increases.

Now let’s say you win 90% of the time, and the average profit is still 0.5% then that loss, which only occurs 10% of the time, should be 4.5%.  Yikes.

You can see how it would happen.  The 100 DMA at one time represented the entire market which was not overly biased towards technicians.  Shorts maybe covered at those levels because it seemed appropriate.  Longs doubled down because they had liked it there once before, so why not now.  All these charts are just a graphical representation of human behavior.

But now that has changed.  A lot of the people sitting on long positions bought for no other reason than it should go higher.  It wasn’t a long only manager adding to a position at levels they had once liked.  It was a twitchy algo buying because it has to go up.  One feature all those algo’s have is relatively tight stop losses.  They may all need to exit at the same time.  That might push us further than anyone expected.

While real money might add at the 100 DMA, maybe once they break through it and have all their gains from the past few months wiped out, they don’t add, or even sell.  Maybe the algo’s that sniff out weakness short.  Maybe that is why we don’t get a small gap down, but instead hit an air pocket.

So I am nervous that the support we think we have has been eroded by the types of trading that goes on, and that what should be a small sell-off based on the data, becomes a larger sell-off base on the positioning and types of trading we see in the market.

Treasury Weakness

In case you missed it this morning, we recommended covering the long bond long position (I do love saying that).

Before getting into why we are nervous, I have to admit I still think TBT might be the most insane “investment” out there.  2 times the daily move in any treasury seems silly.  These leveraged ETF’s have serious path dependency problems as it stands.  The “churn” of daily bounces hurts their returns.  That is common enough in treasuries.  Then it is based on some index (Barclay’s 20+ year treasuries) that is completely affected by the Fed’s positions.  The Fed owns significant portions of a lot of the bonds that are in that index, making pricing less transparent.  But that is solved by being short through bilateral swaps.  Okay, I use the term “solved” very loosely.  So you have path dependent leveraged risk to an index that isn’t fungible through bilateral swaps.  Shoot me.  Please just shoot me.

But shares outstanding for TBT continue to grow.  If ever any investment should be destroyed on principle alone, this is it.  It makes me want to go long the long bond, again.

But I can’t.  Not every “consensus” trade loses every day and I am very nervous that “something” is going on in the treasury complex.

Here are our concerns:

We have hit some target levels 2.60% on the 10 year and 3.55% on the long bond (or close enough)


We aren’t rallying as much as we “should” be.  Completely subjective, but this morning when futures were down 4 (how quaint that seems) treasuries were also lower.  It feels like there is real resistance here, and I’m not sure how things like TBT aren’t causing a massive short squeeze, but it appears that they aren’t.  So cautious here.


The prices paid on ISM was very high today.  The CRB index is getting higher by the day.  The dollar is weak.  So there are signs of commodity inflation, if nothing else, but that should help put a floor on how low treasury yields go.


Finally, and possibly most important, is that we are annoying most of the rest of the world.  Bernanke often said that trade barriers established during the great depression made the problem worse.  He urged government not to repeat that act, and they haven’t.  But his policies are starting to have that same impact.  Countries blame QE for their mess.  Countries are starting to question the sense of having a single reserve currency.

So I don’t like what is going on here.

What is worse, is that I do believe that if treasuries crack at all, then retail will exit high yield and investment grade bonds and with spreads already leaking there will be no hedge fund demand.  In fact, hedge funds will become forced sellers.  Then the real final bid, the pension funds and insurance companies, who are already fairly long risk, will hold off using their capital until the pain grows.

It will be the drop in corporate bond prices that cause the real problem, but it will be precipitated by a treasury sell-off.  One that we haven’t seen yet.  Hopefully we won’t see.   Hopefully some perception of “safety” and concerns about how weak growth will be will hold down treasury yields, but I am extremely nervous.

Positioning/Model Portfolio

We are selling the remaining 5% of SPY March 180 puts.  We want to sell them before they become completely intrinsic value.

We should probably sell XOVER protection, but will hold on to it for now (in no small part because it is now after noon and London has shut).

We might take some IG off later today (we added a tiny bit more on Friday around lunchtime).

I am very close to going short treasuries.  Not the long bond.  Maybe the 10 year.  Maybe the 5 year.  Maybe we do via interest rate swaps.  I am looking to see what expresses my concern the most with the least amount of damage if I am wrong.  This is difficult to pull the trigger on since you know my feeling on TBT and since I am bearish enough stocks that it is hard to get too jazzed up about a treasury sell-off.

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Jason T's picture

i like charts and or pictures.. 

Fortunate Fool's picture

Some breaking news for you Tyler: Google fined 1 billion euros by the french tax man... that gotta hurt!

Fish Gone Bad's picture

I just love the French people, but that government is whack.  Tax & Fine is not fine.

Bastiat's picture

Yeah well I flipped off the Streetview car yesterday.  It might not hurt them as bad but on the other hand, there's no appeal.

Pure Evil's picture

Happy to see someone else besides me is flippin off the Google cam. I try to get a look at the drivers face and from the lack of expression on the drivers face to being flipped the bird they probably get flipped off quite a lot.

If I could I'd stick my ass out the window and give him a good shot of the Gooch (grindle).

Squid-puppets a-go-go's picture

" trade barriers established during the great depression made the problem worse.  He urged government not to repeat that act, and they haven’t."


Devaluating currencies is the same war fought on a different front. But I'm sure Bernanke secretly knows that.

11b40's picture

Right, but some fair trade adjustments might create some jobs, and we couldn't have that, could we?

Derezzed's picture

What could possibly go wrong ? BTFD

max2205's picture

Long sex for the next 7 years

TheMeatTrapper's picture

I don't understand how we can call this a "sell off". It seems to me like this is but a blip on the charts compared to where the market would be without the Fed pumping it up. I think we need to lose a few thousand more points off the DOW before we can call it a sell off. 

Azannoth's picture

I think (Hope) we will see a few dozen more bankers commiting suicide before we can call it a "sell off" :)

pods's picture

^Charts on this Tyler?
There has got to be a correlation.


TeamDepends's picture

causation = correlation = coroner

kill switch's picture



I think the jury is out as it relates to the tapering ,,are they really?? Do we know for sure?

El Vaquero's picture

We don't, and we won't until this all has had time to play out.  Even more, even if they are tapering, we don't really know if the taper is really $85bn -> $75bn -> $65bn or $105bn -> $95bn -> 85bn. 

ebworthen's picture

A Ponziconomy does tend to cause this type of consternation and confusion.

Theta_Burn's picture

It must suck to have to trade and advise for a living this shit show.

Lots O luck to who still do...

slightlyskeptical's picture

I do and yes it does suck. I am not really a trader but more of a long term retirement advisor (mostly funds and etf's).

What sucks is that most everyone has drank the poison and wants to try their hand at trading now. Having any cash on the sidelines has become taboo. I have people rattling my ass to invest that last 5% of their cash allocation into equities which are already overallocated (couldn't buy fixed income for LT). They get extremely pissed when I won't. If it's any consolation the calls have abated the last few weeks.

Then you have the ones that lost all faith in 2007 and sold most of their stocks in 2010 and 2011 (at least they held that long) and missed most of the last 2 years also wanting to buy now.

It is not easy to manage, so basically I don't. The thought of options or short funds for protection just make stheir heads swim. So sit back and let it happen and defer, defer, defer any buying. You can't make pyschopaths and the pyscholacks happy so I sit on my guns until the chaff goes away or my buy points get reached.

Not much joy in Mudville.

kchrisc's picture

Reading through the literature on hyper-inflation, one will find that they all cause the general public to speculate and trade on the stock and other markets.

It's a symptom of inflation.

slightlyskeptical's picture

I am sure when we see hyper inflation that will be the case in the US markets as well. The only reason to nedure the volatility of stocks long term is an attempt to outpace inflation. According to well accepted economic principles hyper inflation needs demand and money in the hand sof the consumers. We really are not seeing that at this point and if it wasn't for price fixing we would be seeing deflation.

kchrisc's picture

I respectfully disagree.

My contention is that over the years the public has adjusted to the FedRes' persistent inflation by speculating. One also sees the same negative societal effects manifesting themselves as well.

All of it has happened slowly over many years, but the effects seem to be the same.

Another way to view it is to consider the theft of the FedRes as changing the economy from non-zerosum to zerosum--"From dog eat rabbit to dog eat dog."

Just food for thought.

X_mloclaM's picture

money man. deflation causes hyperinflation.

its the loss in confidence in the fiat, the system that causes the medium to devalue relative to real, consumer, goods (especially when credit supply / asset values collapse)

the resultant reaction, exacerbates,

and the cpi calculated properly d show it true at the time, even as rents fell

see the 70s taught the Keynesians with a brain (meaning their doing it cuz of the benefits derived form other ppls capital) that rising prices can co-exist with depression (and even falling prices in fin assets should credit deflation/ mon deflation take root)

one taking root, woud b the printing of fiat till short rates go negative, eliminating > 1/2 of the dollar supply, or other shadow banking clog, such as the belief gross is net, or that Amuricans dont want to back the DoddFrank centralized shared good-asset warehouses

Kreditanstalt's picture

Why not just throw them all out annd let the real free market take over...?

WTFx10's picture

How would they be able to skim off the top of all those free market currencies? Must have control ,must have laws to protect whatever they deem is money.

Competition is sin, especially when your running the ultimate CON job.

youngman's picture

I agree that the USA is pissing off quite a few countries with our game....and they have to be thinking of doing something else....problem is..there is not much else out there right it the Yuan..or PMs...

Winston Churchill's picture

Think outside the box.Most Chinese I've dealt with tend to.

How about a gold backed BRIC for instance for international  trade ,

and have national fiats as the 2nd tier tied to the USD and/or BRIC.

Well the USD would soon disappear.


BandGap's picture

Biometrics, chemometrics are two areas I am familiar with as far as programming. If algos are focussing on better than 95%+ probabilities and the outcomes are subsequently made part of the decision making basis set, well, the algo outcomes will force the market in one direction. I am sure outliers, while many could be significant, are not included in the principle component basis sets.  The problem is that outliers in the past have actually been predictors of changes.

No shit, this is Skynet.


papa_lazarou's picture

My fear is that the Internet will continue to undermine the quality of writing in general as fewer and fewer people consider the value of proofreading and editing.

cossack55's picture

Grammar, indeed language, is sooooo 1990s.

akak's picture

That is not a fear, it is a fact.

But then again, I challenge anyone here to name or point to even ONE current social/cultural/political trend that is for the positive.  Just one.

akak's picture

OK, I'll grant you that one.

Now, can you find a second one?

Woodhippie's picture

I got one.

The more TPTB keep tightening the screws, the more and more Americans continually squeeze out enough currency from their pitifully smaller pay checks to keep buying record numbers of firearms.

And that, my friend, is the meaning of, " the trend is your friend".

Manic by Proxy's picture

Large increase in home gardening.

ebworthen's picture

WTF u talkin' bout bro?

Their gunna be moar txt'n n' swipin' wit internets!

(thumb swipe - bleep boop - jingle - like - hashtag - burp)

akak's picture

Consumerist trendsucking geekism is very much the mattering thing.

pods's picture

The biggest fear is that in a moment of clarity, Obama stops reading the teleprompter and says:

 "We are lying, we are all fucked. It is all going to collapse and there is nothing we can do to stop it."


astoriajoe's picture

scary, but beautiful at the same time.

SeanJKerrigan's picture

Hope no one minds a little shameless self promotion, you might enjoy this.

US Government is Partially Responsible for Philip Seymour Hoffman’s Death


Also enjoy these quotes:

“As the human caravan continues down the centuries, rulers and priests still dominate us. They constantly rein in our independence as they transform us into serfs or slaves or soldiers or salesmen. And now, without even realizing it, we are suffocating beneath the ultimate indignation. We have been degraded so profoundly that we don’t even cringe when we are called consumers.” — Ray Jason, The Sea Gypsy Philosopher

“I want to share something with you: The three little sentences that will get you through life. Number 1: Cover for me. Number 2: Oh, good idea, Boss! Number 3: It was like that when I got here.” — Homer Simpson

“Fear is the cheapest room in the house. I would like to see you living in better conditions.” — Hafiz

“Pain does not create a long-lasting memory, but the memory of luxury exerts itself for ever.” — Paul Theroux, “The Happy Isles of Oceania

“We shape our tools and thereafter our tools shape us.” — Marshall McLuhan

“Capitalist society, centered on the eternal repetition of the commodity, neurotically represses the terrible truth that there was a time when it never was, in that gesture of self-delusion known as ideology.” — Terry Eagleton

“The major advances in civilization are processes that all but wreck the societies in which they occur.” — Albert North Whitehead

“The stores along Hollywood Boulevard were already beginning to fill up with overpriced Christmas junk, and the daily papers were beginning to scream about how terrible- it would be if you didn’t get your Christmas shopping done early. It would be terrible anyway; it always is.” - Raymond Chandler, The Long Goodbye (1953)

American journalists are scared of not being scared enough. They know if they don't take fear seriously, nobody will take them seriously. – @FearDept

LFMayor's picture

Well, if that's true I'm going to have to quit bitchin about my tax dollars being wasted, because that's an effort I can fucking get behind and push.


thethirdcoast's picture

Theroux is full of crap and his books are terrible.

SeanJKerrigan's picture

Haven't read it, but objection is noted.

madbraz's picture

What a bunch of garbage.

Spastica Rex's picture

I think they could just write the algos so that they never really sell.

BandGap's picture

The algos have to use variables that are "predictable". When you see the system overwhelmed like yesterday, and assuming non-humans were in charge, it meant that whatever variables they were using to generate their algos were incorrectly weighted in predicting the outcomes. In essence, as the systems start to introduce variables 1.) not seen or accounted for or 2.) underweighted in the algorithm used for the model, you see a breakdown.

Chaos has a very interesting way of working into these systems because it's chaos. I believe some of the "fat finger" episodes of the past few years were over reaction to chaos worming it's way to the surface.

The place is full of worms.

Martin Silenus's picture

Why don't sharks attack bankers?   Professional courtesy.

Oh regional Indian's picture

Nic. And why don't sharks attack lawyers?

Instinctive recognition of poisonous prey.