A Coiled Spring

We are pricing in the fiscal stimulus deal getting done + more.  If you read the headlines, it may still seem like the Democrats and Republicans are still far away from a deal but unless a deal is coming, rarely will both sides mention that talks were productive and things are improving in negotiations.  Anyway, market is taking that "uncertainty" off the table and concurrently pricing stocks higher.  This may be the feel good news top after a huge rally.  

Although I am not responsible for your trades nor do I tell people what to buy or sell, I do feel a sense of responsibility for what I write.  I will admit that I have been early in shorting the rally since the March bottom, with early shorts in May.  I did take a lot of heat on those shorts and looking back, my calls were completely wrong.  I was way too early, but I mitigated the damage by bailing out on the dips in mid June and late June, which saved my bacon.  I even managed a small profit after the dust settled.  Same goes for the NDX short in mid July where I also took some heat but which turned into my favor and I was able to cover some for a decent profit.  But this time I have a different view and more conviction. 

On a scale of 1 to 10, my conviction shorting SPX in May and NDX in July was about a 7, so there were small doubts in the back of my mind mainly due to the proximity to the March bottom and the remaining fear that was lingering among investors.  I probably should have taken a smaller position back then, especially in May, but sometimes I just get a bit too aggressive even without the highest of convictions. 

Shorting now is very different.  First of all, over 2 months has elapsed since my short campaign which started in May.  This time, instead of shorting SPX, I am shorting the NDX.  The reason for shorting Nasdaq instead of S&P is simple.  All the speculation is occurring in the Nasdaq and it is also the most overbought and most loved. 

My conviction on my Nasdaq short is about a 9 now.  I have gone over most of the reasons in previous posts, but its a function of time since the last big correction (March) and price, i.e. the extent of the rally (huge) since with just very short term dips along the way.  I have built up my short position since Monday and am almost at a full position now. 

With time elapsing, now over 4 months since the March bottom, more and more complacency builds up, providing the potential energy for a waterfall decline.  Like a coiled spring getting pushed tighter and tighter until the slightest movement sets off a huge move.  I've shown previous examples in last month's blog post. 

Markets have evolved over the past 20 years.  After 2008, for the first few years, market tops were formed when the indices chopped back and forth for a couple of weeks after a long rally, and then made a sharp decline.  Examples include April 2010 top, May 2011 top, April 2012 top, and September 2014.  But since 2018, the tops have come suddenly, with very little volatility or choppy back and forth daily price action to signal an imminent change of trend.  January 2018 and February 2020 tops are the best examples of this.  The market was still trending up before the bottom fell out.  The September 2018 top was also very quiet, with very little choppy price action before the big drop.  Same goes for April 2019 and July 2019. 

So what used to be signals that the market was about to change trend and a big correction was coming doesn't happen anymore.  The algos and nature of the market is to push as high as possible until there is total buyer saturation, and then on the other side of the mountain, there are no eager buyers left, and hard to put on a short position unless one is comfortable shorting in the hole and expecting a bigger hole. 

It is ironic that positive stimulus deal news was more happily received by gold and silver than by the SPX.  Its gotten to the point where the market now mainly views the stimulus as a dollar debasement exercise, and secondarily as an economic bailout.  
I don't have a strong view on gold and silver, I do believe the dollar is in the middle of a long term downtrend, and strong FX trends tend to ignore overbullish sentiment and just keep trudging along.  And this dollar weakness trend looks quite strong to these eyes.  Its a long time coming, and with the way that the US government and the Fed have reacted to the pandemic, it shows you how they will operate going forward.  Printing and spending money zealously like no other country this side of Zimbabwe.  In comparison, Europe and Asia are taking much more modest measures and doing a much better job of focusing on the pandemic more as a healthcare crisis rather than an economic crisis.  It is all about supply and demand, and even if demand for dollars stay the same, the supply is growing at such a rapid pace compared to other currencies that the forces pushing down on the USD are immense.