Debt Ceiling Worries

Did the market really selloff yesterday because of the debt ceiling uncertainty, and recover because McConnell caved in and agreed to a short term deal?  Worrying about the debt ceiling is the epitome of very short sighted thinking.  They have never failed to raise the debt ceiling.  Its about as near a certainty as the sun rising in the east.  The US government, with a spending problem, will not shoot themselves in the foot and take away their own credit card.  They don't need to mint a trillion dollar coin.  They can just do whatever they did in the past, and if not, there is always reconciliation, the easy way out of doing what you want without having any bipartisan support.   Not raising the debt ceiling is like a gambling addict going to the casino and putting himself on the voluntary no entry list.  Eventually the guy will find a way to gamble, if not at that casino, online or at another casino.  Or maybe the guy just binge buys a bunch of lottery tickets.  

What we saw from last Thursday to this Wednesday was a U bottom.  Its rare these days, and something people rarely talk about, because with all of the liquidity and predatory front running HFTs, you usually get huge flush outs from front runners forcing liquidations and running stops, taking markets too far down, so there is a slingshot effect.  Since there is always so much liquidity, the market roars back higher, just as fast as it went down.  Some examples of U bottoms are August 2010, June 2011, July 2015, August 2017, April 2018, August 2019, and if the market keeps rallying, Sep/Oct 2021 will be added to that list.  

U bottoms are characterized by markets that have support at lower levels, and lack the forced selling and liquidations which result in V bottoms.  Shaking the tree through time and choppy, volatile price action rather than capitulation. 

The first sign that a U bottom was possible was the sharp rebound on Friday unexpectedly (in my view) after a nasty overnight purge lower towards ES 4260 after the weak Thursday Sep 30 close.  I am sure some of that post-close weakness Thursday was delta hedging by dealers and those that were front running that because a big JPM fund put on a huge put spread paid by selling OTM calls on Sep. 30.  It was a chunky delta negative position, which was hedged for 1 day when the fund bought a in the money same day expiration SPX call to delta hedge their options position, basically kicking the can on the hedging from intraday Sep. 30 to the close and the overnight market.   So dealers had to hedge on a huge SPX short put spread position right at the close. 

Usually this quarterly trade isn't a market mover when markets are in an uptrend, but when markets are nervous, and their call that they sold the previous quarter finishes out of the money, then the position tends to cause a big short term ripple in the market.  

If Friday and Tuesday showed you that there was underlying demand for stocks below 4300, Monday and Wednesday showed you that there were still too many bulls looking for a quick rebound (as did that @hmeisler investor poll), and they were punished chasing strength on Friday and Tuesday.  But usually after 3 of these up and down cycles after an extended selloff, you have usually worn out all but the hardiest of bulls, and that provides the base for a strong rebound.  

Plus, despite a month long selloff, the SPX only sold off 5.3% from the peak on a closing basis.  That's just not going to do that much technical damage considering how strong the uptrend has been this year.  This month long selloff couldn't even get down to the July lows on a closing basis.  

But what I did learn about this market is that stock investors are quick to be bullish, and reluctant  to get bearish for long, even in the face of a lot of bearish news.  They have learned their lesson from the brief selloffs and strong V bounces since March 2020, and now conditioned to not fear down days, but look at them as buying opportunities rather than as a sign of weakness.  That might not mean much now, but its not a good sign for the longer term prospects for the US stock market. 

We got a big rally supposedly because of the debt ceiling "deal", but I think the market was looking for any catalyst to make a bottom and start the recovery from the month long pullback.  I was a bit worried that I missed my opportunity to add more longs by not buying on Monday, after seeing that strong Tuesday rally, but was relieved to see the gap down on Wednesday and was able to add long exposure at decent levels.  I plan on holding these longs for a longer term swing trade, maybe until mid November.