Define irony: literally hours after one of the world's most renowned bears says it is "not yet bear o'clock [10]", markets have their worst daily crash in months. So what is Bob to do? Why issue a follow up opinion of course...
Bob's World: Is it bear o'clock now?
It’s funny how – after not writing for over two months – I put a note out last week (highlighting some key levels) and within hours of publishing we have gone on to test and break some of these key levels. So in the spirit of the ongoing narrative:
1 – I remain firmly and resolutely structurally BEARISH the post-2008/09 QE driven rally in risk assets. So no change there. As the year unfolds in both EM and DM we will I think see that most major and relevant data (economic) and earnings trends will be weak or deflationary. QE has so far failed to create the broad-based real economy inflation in incomes, earnings and productivity needed to get growth going again and thus has largely failed to achieve its primary objective, which was to drive the much-needed post-2008/09 debt deleveraging – heavy indebtedness, now also including the EM bloc, still dominates.
2 – Of course QE has been a friend for the paper wealth of the top 1%, at the expense of the many, through boosting speculation and financial engineering. But as we can all see, QE stopped being a friend of commodities in 2010/11, it stopped being a positive for EM around late 2012/13, has I think stopped being a positive for housing assets from around mid-2013/early 2014, and in 2014/15 the ‘last man standing’ in the QE fan club – equities – will also fall out of love with QE. Why? Because as 2014 unwinds the data will I think expose policymakers as falling far behind the curve, persisting with a policy tool, whose ‘success’ is increasingly narrowly based and which is failing to deliver broad-based inflation, growth or any other meaningful positives to the real economy, whose incomes, earnings and cashflows must ultimately validate all financial market asset valuations. I think later in 2014 the themes of deflation and recession will dominate, and in the middle of this it will I think be painful to watch Ms Janet Yellen and other policymakers flip flop and attempt to extract themselves from their policy errors.
3 – Focusing on the shorter term we think that weak Chinese data are just an excuse for last week’s price action. The reality is that the pressure behind the dam had been building for weeks – there was excessively bullish positioning and sentiment coming into 2014. Fear and greed was at work again. Investors were too hopeful coming into 2014, and last week fear dominated as, so far in 2014, the global data points to very mediocre global growth at best, mediocre earnings, and generally deflationary economic data. The important thing for me now is that after failing to see a weekly close above 1850 on the S&P500, last week there was a weekly close below 1800, which forces me to rethink my timing. My best guess from here now is:
A – Using the S&P500 as a risk proxy, 1800 and 1770 as weekly closes are now key levels. Intra-week we can bounce around, but we need to see – this week or next week latest, a weekly close above 1800 if we are going to see a quick turnaround and rally back to 1850. In such a case, and as per my note from last week, once we see a weekly close above 1850, then 1950 S&P by April remains the target.
B – If we cannot recapture 1800 this week or next, then a weekly close below 1770 points to a much more bearish picture for February. A weekly close below 1770 this week or next tells me that the risk/rewards favour a meaningful risk-off move to the low-1700s in the S&P during February, with even 1650 and 1600 possible. In this more bearish short-term scenario I’d expect Ms Yellen and her late February testimony on the Hill to be a catalyst for a bullish turnaround – if the S&P drops 100/150 points in the next 2-3 weeks I suspect that she will then send out extremely dovish signals, which the market will not be able to resist responding to! At this point in time, if this is indeed how it plays out, then from late February through to April I’d look to recapture 1800 and then aim for a weekly S&P close above 1850 into end Q1 2013 or April.
C - As per 3A above, upon a weekly close above 1850, then 1950 still attracts. But clearly 1950 is more likely under scenario 3A rather than under scenario 3B – under scenario 3B 1850 may act like a major double top. Based on last week’s closes I am now 60/40 in favour of scenario 3B.
Let’s see, but either way 2014 is already proving to be more challenging, more volatile, more illiquid and more bearish than the significantly bullish positioning and sentiment indicators warranted as we came into this year, and way more bearish than the enormously bullish consensus emanating from the sell-side. We will see painful counter-trend rallies, perhaps even to marginal new highs (3A above) – never underestimate the willingness and ability of central bankers to persist with flawed policies – but overall I think the end of the post-2009 QE-driven bull is at hand (or very soon to be at hand) and the onset of the next significant (post-QE) deflationary bear market, which I think will run deep into 2015, should now begin to guide all investment decisions.
Regards
Bob