From Dove to Hawk Powell

Not me.  Them.  The majority of fund managers, controlling trillions of dollars who still can't get their head around the Powell pivot.  This time, the opposite of January 2019.  From dove Powell to hawk Powell.  He wore the dove mask for nearly 3 years, so people get used to it.  So they don't believe he can change.  Oh yes, he can change.  

He wouldn't be sitting in that seat as Fed chair if he couldn't change.  He's the slickest politician in Washington, and he's not even considered one.  How else can you get all the Republicans to like you even when you buck against Trump, their idol, and at the same time, get support from most Democrats even though you are a Republican.  That's political skill.  When Trump was complaining about hawk Powell in 2018, as he was on automatic pilot with quarterly 25 bp hikes and QT, Powell was feeling some heat.  And Trump was complaining the whole time until the dovish pivot.  What did Powell do?  He had conversations and dinners with senators behind the scenes, scoring brownie points.  And he didn't respond to Trump, he basically ignored him, which was the best strategy.  A political master at work.  

Anyway, Powell has been reappointed and he's got 4 more years.  And politicians' new worry is inflation.  Which makes it Powell's new worry.  He's now an inflation fighter, after ignoring it for 9 straight months and brushing it off as transitory.  So yeah, you could understand investors' logic that he's not going to be hawkish.  After all, he's the same guy who kept the same dovish tune while the CPI was raging higher month after month.  But last year, politicians didn't really care about inflation, they were still looking in the rear view mirror and looking to pump out more stimulus.  And Powell knew that, and the safe choice for him to get renominated was to not rock the boat and keep QE going and do nothing, while inflation was surging.  But that started to change in the fall of last year, and Powell gradually changed along with it.  The tone has changed among the public.  They don't give a crap about Covid anymore.  Its inflation that is their main concern.  Because while the stimulus has stopped, the prices keep going higher, and they're not happy about it.  

M2 supply goes up $6 trillion in less than 2 years.  You print a bunch of money, and prices go up.  But none of the "experts" on TV are talking about that.  No, it must be those damn Chinese supply chains.  LOL.  You can't make this stuff up.  Truth is stranger than fiction.

So Powell has made a mess of the situation, totally butchered it but few were  complaining because the SPX kept going up.  He's so late with the hawkish pivot, that even with the Eurodollars and Fed funds futures pricing in more than 4 rate hikes in 2022, he didn't push back on it.  He seemed like a guy who didn't want to tell the market the bad news, about what he's really thinking, and instead gave the usual noncommittal mealy mouth word salad of a press conference.  He didn't want the market to crash, but he couldn't lie, so he said as little as possible, except that they were likely to hike rates at the next meeting.  And that a few rate hikes weren't going to hurt the labor market, which is like telling a baby that receiving this shot from a horse syringe won't hurt.  

Its odd.  Most of the time, the Eurodollars market is much less aggressive in pricing in rate hikes than the general consensus on Wall Street.  Its the opposite this time.  And that's worrisome.  The Eurodollars market is pricing in 5 rate hikes in 2022 and most of the equities investors think that's fantasy and impossible.  It seems most think the Fed will be lucky to get 3 rate hikes done this year without causing a stock vigilante like tantrum in the market to keep the Fed from hiking even more.  But Powell's next 4 years are secure, he's not going to be easily shaken from the hiking path unless you have a deep, deep selloff, probably down 20% or more, so the Powell put strike is probably around SPX 3700.  Even most fixed income investors are skeptical, slow to adjust to the new Powell, but not as slowly as the stock guys, who are completely out of touch with how hawkish Powell has become, and will be in the coming months. 

Which brings me back to the current psychology in the market. 

The five stages of grief are:

• denial
• anger
• bargaining
• depression
• acceptance
  

Its hard to believe after such a sharp selloff, but we're still in the denial phase of this selloff.  The next step is anger, which is probably either right before or after the March FOMC meeting.  You are not going to get a big rally when you are going from denial to anger.  There will be chop and likely another retest of the recent lows, around SPX 4220.  Considering how complacent many are about the number of rate hikes in 2022, I wouldn't be surprised if SPX went under 4200 on the retest, setting off some stop losses and more panic sells, before rebounding strongly.  

I feel uncomfortable when too many traders have the same ideas as I do.  Especially short term ideas.  I am hearing a lot of talk about how oversold the market it, how cheap it is, and about a bounce above 4500, many thinking up to 4600.   Then I see this:  

In a week when the SPX went from 4577 to 4356, speculators added a net 101K ES futures contracts to their longs.  The last time speculators got this long SPX was in spring of 2018.  The market chopped around for a couple of months and grinded higher for 4 months before topping out and entering a vicious decline in fall of 2018.  

Good stuff in this blog post from @HalfersPower, mentioning the low correlation selloff over the past month, and how similar that is to low correlation selloffs in 2000.  Future 1 month SPX returns were much lower in low correlation selloffs than high correlation selloffs.

Still long, but looking to dump underwater longs in the next 2 days.  Don't want to overstay the long side after a bounce.  Most of the research I've done over the weekend confirms my suspicion that we are in a post bubble 2000/ hawk Powell 2018 like environment.  Its not a time to get greedy, in my view, the bounce will be weaker than most longs expect. 

Fearsome Fridays

There is a fine line between taking profits too early and missing the exit.  Unlike previous big selloffs, the bounces from short term bottoms have not lasted for more than a few hours.  All of a sudden, traders are nervous holding longs above SPX 4400 and a soft breeze knocks it over and takes it down.  Once again on Thursday, the market couldn't hold above 4400 and quickly plunged towards 4300.  Same thing on Wednesday after a "hawkish" Powell.  And on Monday night after a strong close, when the overnight session dumped huge and weakness continued into the Tuesday US morning session.  

With a target of 4460-4480 for my exit point, I was only 30 points away on Wednesday but thought there was no rush to sell and the market was due for one big up day.  And like that, I missed the graceful exit.  Not only adding to losses, but also not giving myself more dry powder to buy lower.  There must be a lot of other stuck bagholders who are thinking the same thing, waiting for a big up day that doesn't come, and end up pushing the sell button when they give up hope, day by day. 

The trust in equities is eroding, as most people realize that the fundamentals are getting worse with a tightening Fed, no more fiscal stimulus, and valuations that are historically very high.  Sure there are still going to be a lot of TINA (there is no alternative) investors but they aren't the marginal buyer or seller that moves the market.  Its the hedge funds, CTAs, etc. that move in and out of the market regularly.  And they will be less eager to chase rallies in the coming months.  Making a V bottom unlikely this time around, at least until you get more of a flush out in the market, a bigger purge either through time spent chopping at these lower levels or through even lower prices.    

Even if this week was the bottom, and we bounce next week, its not a good omen when you spend so much time near the lows, and struggle to hold gains after being so oversold.  It shows that there are a lot of fund managers out there, poorly positioned and hurting, that are eager to sell on any bounce, just to minimize the big damage done so far this year. 

Now we're back in the low 4300s, a price area that was strong support on Wednesday and Thursday.  But we've spent too much time at these levels, and even with a AAPL earnings beat, it wouldn't surprise me if we took one more scary looking drop down towards anywhere from 4220 to 4270 to test the longs again, ahead of the weekend.  Fridays have been bad, but Mondays have been even worse this month, so if we trade weak, it probably leads to a cascade of selling from the sell ahead of the weekend crowd dumping their longs, crying uncle.  That should be enough to form a bottom, considering the big put volumes we've seen for the past week (yesterday was another big put volume day, and the total put/call ratio was 0.93, extremely high for a marginally down day).  

Still have the same target for the longs of SPX 4460-4480, but will not give it more than a week to play out.  If we still haven't gotten to my target price by next Wednesday, looking to sell and move on from a bad trade.  

Post Dump Game Plan

The spectrum of greed to fear determines the urge to trade.  In the middle, and you get the least volatility.  In the greed extreme (GME/AMC/bitcoin madness in Jan, May 2021), you get a lot of movement.  People try to catch the big moves and hit the lottery.  But in the fear extreme, you get the most movement.  Nothing encourages people to trade more than when their future is on the line.  When you are losing tons of money, and keep losing money, jeopardizing your future financial plans, the fear percolates quickly until its no longer bearable and you push the sell button.  We've reached at least that urgent sell moment on Monday.  

We have made a full move from the extremes of retail investor greed in January/February 2021 to the extremes of retail investor fear in January 2022.  

The market works in cycles.  This is about as close of a replay of the 1999/2000 bubble that I have seen over the past 22 years.  It took over 20 years for a new generation of investors (suckers?) to catch the greed virus and start buying junk at ridiculous valuations because it was going up.  In 2000, it was mostly the baby boomers.  In 2021, it was mostly the millenials.  And if I had to compare, the millenials have been much worse at choosing their targets.  The internet stocks in 2000 at least had a vision, some basis for future growth potential, although outrageously overvalued.  The meme stocks and cryptocurrencies in 2021 look like a bunch of investors just piling into anything that was the flavor of the month, with total disregard for fundamentals.  

So we stand in front of a heaping pile of burning dung.  I've been burned by the dung over the past several days.  Being a countertrend trader, you will take hits when you get extreme moves.  Its happened before (January 2008, August 2011, August 2015, February/April 2018, October 2018), and it will happen again.  But there will be chances to make it back with interest over the next couple of months.  Under these conditions, there are enormous opportunities as you are deep into the fear cycle.  When in the fear cycle, investors make mistakes.  From others' mistakes, comes opportunity.  Here is the game plan for the next 2 months:

 1. Do not get net short, only short to hedge long term holdings.  Its just not worth risking being caught in a August 2007/October 2014/March 2020 scenario where after the panic bottom, you just get a steady grind higher, with no retest, that gives shorts no graceful exit.  

2. Buy dips towards SPX 4300-4350.  Stay long, slowly lighten up as we get towards the upper end of the range, SPX 4480-4560 (to be determined over the next few days, as we define the new range in this fear based market).  

3. Expect a retest, but don't bet on it.  In most of these sharp correction scenarios, after the first panic bottom, you get a successful retest of that bottom 1 to 2 months later.  It doesn't always happen, but it happens more often than not.  If you get that retest, that's a golden opportunity to load up not only on stocks, but also calls, as the up move off a retest is especially steady and steep and relentless. 

4. Don't let the fundamental bearishness seep into your psyche.  Yes, in the end, it probably turns bad, with inflation, Fed, and slowing economy with no fiscal stimulus, but we're trading the next 2 months, not the next 2 years.  

5. Short the VIX.  Even if the market doesn't go up, if we stay in a range and go sideways, the VIX naturally calms down.  Even in a retest scenario, the VIX usually makes a lower high.  Riskier than buying the dip, so can't be too aggressive with sizing, but higher probability trade. 

All signs point to Monday being the fear panic bottom of the move.  Yesterday they tried to repeat a squeeze into the close on Monday but the overnight gap down (Ukraine?) fears brought back the sellers in the final hour.  We are in deep negative gamma environment (usually bullish) and recent dark pool activity (DIX = 47%) shows that smart money were actively buying yesterday.  Explosive put volume on Friday and Monday, so lots of hedging going on, ahead of this FOMC meeting.  Just with VIX going down, you will have dealers who have to buy futures to adjust their hedges against short puts in their inventory.  

Still long, looking for an exit around 4460-4480.  Could definitely go higher, but want to have dry powder just in case there is another rug pull lower towards 4300-4350 in the next few days. 

Bear's Warning Shot

The selling is getting serious.  Damage has been done.  Technically and psychologically.  There will be aftershocks even after we hit the bottom and are back in an uptrend.  Its not your 2021 market anymore.  I was a bit too sanguine, and thought the dip buyers would come in as usual, like your regularly schedule sitcom.  I was playing the percentages, expecting the same regime with dips being great buying opportunities and immediate rallies off the bottom.  

This is when traders like me get caught with their hand in the cookie jar.  You keep stealing cookies from that jar, but eventually you'll get caught.  Its a matter of how much you lose when you do.  Do you lose a finger?  A hand?  An arm?  An arm and a leg?  Now its just minimizing the damage and adjusting to the new regime, one that is less forgiving for longs.

Totally mistimed the long entry this week, with expectation that the 4550 level, and especially 4500 below that, would be strong support levels that dip buyers would rush in to buy.  That didn't happen.  The selling was stronger than I expected so early in the topping phase, although it is not completely out of the norm, as you saw similar types of severe selling in April 2000 and February-April 2018, right after a strong uptrend.  

This sharp selling over the past 3 weeks provides a lot of information on how the year is likely to play out.  The bearish sentiment that has been building up and hitting multi year highs in investor surveys, like AAII, is actually not a good sign for a quick rebound.  Usually, you get better rebounds when the bearish levels dip, but don't crater.  When you get investor psychology this bad, usually it takes time for the market to heal, and work its way back up to pre-selloff levels.  The newly bearish underwater investors will look to sell rallies more aggressively than in the past, making a V bounce less likely.  The view here is that once we make a bottom, there will be a choppy rebound, 3 steps up, 2 steps down, sort of uptrend from the bottom.  So not a good time to buy call options.   

And from what I've seen so far (dispersion is still persistent, correlation hasn't gone up), it looks too risky to play for a big up move right now.  I'm changing my approach to this market.  No more playing for a V bounce.  Perhaps we get a bounce up to 4500-4540 on anticipation of a less hawkish Fed, but I expect Powell to disappoint.  A lot of investors are still not buying into the new hawkish Powell, but he's got 4 more years secured.  Plus Biden seems more worried about fighting inflation than boosting the stock market.  And Powell is as slick a politician as they come, and he is willing to talk tough, even if it hurts the stock market, just to build up some cred towards politicians who are worried about inflation.  

With the sharp selling in recent weeks, especially focused on the stocks that went up the most in the past 2 years, it increases my conviction that the clock on the time bomb has officially started.  If we compare January 2022 to April 2000 (bear market downtrend started in September 2000), then you have another 5 months of choppy to up markets from here, perhaps making another trip towards 4800 or even to new all time highs.  If we compare January 2022 to April 2018, then you have another 6 months of a choppy uptrending market, making new all time highs right before you enter a waterfall declines.  So if history repeats, and my comparisons are accurate, you can expect another major top around summer time and a waterfall decline to start immediately afterwards.

2022

2018

2000

Looking to get out on underwater positions on a bounce towards 4500-4520 level, hopefully before the FOMC meeting, in order to free up capital to be able to buy if there is another move lower.  I am willing to risk a move to 4300 in order to try to catch a move up to 4500-4520, with the view that the odds of it hitting 4500 before 4300 is greater than 50%. 

Gut Check

That was a solid punch to the liver at the close there yesterday, slicing through 4550 support.  Its gut check time.  Now we are looking at rock hard 4500 support as the last line of defense.  I added more SPX longs yesterday, looking to hold into the middle of February.  No longer looking to play for a few days move.  Looking for a bigger move up towards 4800+.  

Here's the logic.  Either I am right and it V bottoms soon and I ride it up to new all time highs.  Or I am wrong and it keeps going down.  There isn't much edge gained from holding on if it goes down and being exposed to the left tail and cutting off the right tail by selling on a move to 4700.  If I am going to expose myself to potential big losses, the only way to have a long term edge is to expose myself to potential big gains.  So hold it for 3-4 weeks and let the chips fall where they may.  

Its a weakening market and it seems like most investors are seeing what I am from a longer term view: tightening fiscal and monetary policy while stocks are at bloated valuations.  A terrible combination, but after such a monster bull market in US stocks, especially SPX and Nasdaq, if you see this as similar to 2000 and 2015, the market was consolidating for months near the top, chopping in a narrow range before finally rolling over and going into a waterfall decline.  In 2000, the SPX made a top in March, and hovered near the top until September before finally entering a downtrend.  In 2015, the SPX made a top in March, and hung around those levels in a narrow range until the waterfall decline in August.  

The Fed still hasn't fired their first rate hike bullet, and QT is still several months away.  There is still a while to go before the tighter monetary policy seeps into corporate earnings and financial conditions.  There is time to play the range, buying when pessimism rises near the bottom of the range (like now), and selling near the top of the range when greed takes over and sidelined investors pile back in.  

Based on hedge fund positioning data from prime brokers, long/short hedge funds have been decreasing their net exposure since late November, and with the January purge of tech stocks, most of the data are showing their exposure near 52 week lows.    

Dark pool data is showing above average buying (DIX > 45 the last 2 days).  Smart money is accumulating. 

The biggest negative out there is the continued weakness in the bond market, but with 10 year yields getting close to 2%, and Bunds around 0%, short term, I only see downside to perhaps 1.95% 10 year yields.  If bonds stop going down, selling pressure from risk parity will dissipate.  Also, January is a weak buyback month, so its contributed to some of the weakness.  After tech earnings, corporate buybacks will get back to their normal levels in February.  

Retail Investor Wreckage

So many doubters out there.  After the dovish pivot in January 2019, the financial community now expects Powell to fold like a lawn chair anytime there is a pullback in the stock market, and go back to being dovish.  He's basically turned into Bernanke Light so people expect him to stay that way.  I don't fault them, I felt the same way but realized in September that Powell was putting on an act and pretending like inflation was transitory, when he knew it was just an excuse to pump the markets and increase his chances of being renominated.  

But the circumstances are much different this time around.  Powell has gotten renominated.  He has 4 more years of power.  And he is a politican first, central banker second.  And when politicians start caring about inflation, so does Powell.  Politicians didn't care about inflation for the last 30 years, so obviously deep down inside, the Fed also didn't care about it, even if they pretended like they did.  That's what average inflation targeting was, a way to give themselves more room to print money in case the stock market went down.  

But the politics around inflation is changing, as the rate of price increases is so high that the average consumer is noticing.  Its overlooked when the pork stimulus is flowing, and everyone is having a good time as stocks keep going up, but when the flow slows down, the stock market starts going down, the consumer, no longer receiving the stimmy checks realizes that prices are going up while their savings are dwindling.  It doesn't help that most of the crap that retail was buying (AMC, GME, SPACs, ARKK, shitcos) have gotten destroyed over the past 12 months, doing much worse than the SPX.  

The end result is that most of the printed money ended up at the Citadels of the world, via Robin Hood, while a lot of greedy and ignorant retail investors have been left holding the bag, just as everything they need for everyday life has gotten more expensive.  Sure, wages have gone up, but most of these retail investors quit their jobs to daytrade in 2020/2021 and collect their unemployment stimmies.  

How depressing must it be to see your savings go down the drain in POS like AMC and GME because you drank the Koolaid from the Reddit community?  And then having to get a real job because you can't live off of your stock market gains anymore?  Its the reverse Robin Hood effect, and when retail is losing money, they trade less.  They are  bagholders, and most bagholders just hold, they don't sell.  When you don't sell, you don't trade.  Less trading, less profits for brokers.  That's what you are seeing as Robinhood has gotten crushed along with all the meme stocks.  

Wall Street has done it again.  It has managed to suck in retail money into the worst investments at the most bloated stock prices in US history (even more than the dotcom bubble).  This after wrecking the parents of those same people 20 years earlier!  And most of these millenials were trying to stick it to Wall St, trying to manipulate POS higher via herding and massive call options purchases.  Instead, they got stuck holding calls going worthless and stocks down 70% from their entry level.  Truth is stranger than fiction. 

Here is the inflation situation:  wages up big, commodity prices up big, housing prices up big, and money supply up big.  Its not about supply chains.  That's a red herring.  Its about the money supply.  When the supply of money goes up 40% in 2 years, and there is no increase in productivity, prices should naturally go up 40%.  The Fed and the US government put on a party for the ages, and you are left with the aftereffects:  a bloated stock market, money supply up 40% in 2 years, wages going up, commodity and housing prices going up even faster, and the rich getting richer and the poor getting poorer (higher inflation, lower AMC, GME, and shitcos).  

And the Biden administration is so incompetent that their solution to the inflation problem is to try to ram through more pork (Build Pork Bigger plan) and try to goose oil prices lower by releasing what is left of the SPR.  Its a clown show.  Its taking a page out of the Argentina playbook.  (By the way, Trump was just as bad: cutting taxes and favoring corporations when they were already swimming in cash, and running up trillion dollar deficits at the peak of an economic cycle.)

We got a big gap down after the 3 day weekend.  The sentiment is steadily getting worse, but there are a huge amount of inflows into the market over the past 4 weeks:

 

Those 4 week inflows are the highest since January 2018.  Unlike January 2018, when SPX was surging higher, the inflows are happening while the SPX is going sideways from 4550 to 4800.  As you can see, high equity fund flows are associated with negative returns (-12.89% avg. above $12.4B inflows).   

I am still willing to buy deep dips but I need to see some more fear, higher put call ratios and more bearishness.  If we get down towards thee 4550 area this week, we could get that flush out for a dip buying opportunity.  With bonds trading weak again, in the short term, its not looking good for stocks.  But tops are a process, you normally don't go straight down from a peak, so I expect a lot of backing and filling over the next few months before that waterfall decline. 

Going Cold Turkey

The patient has been going downhill for the last 20 years.  The organic growth rate was naturally going lower from the early 2000s in the US, Europe, and Japan.  In the first shot of methamphetamine for the patient, banks supplied the drug.  From 2004 to 2007, bank lending expanded household debt via mortgages to anyone with a pulse, in both US and Europe.  This lead to the housing boom during those years, masking a declining natural rate of growth (population + productivity).  Then when the mortgages started going bad and the underlying weakness was exposed, the Fed took the baton from the banks and provided the cure-all: QE.  It kept the patient alive with constant injections of pain killers and uppers.  The side effect of money printing was kept to a minimum with help from shale oil, offshoring production to China, and lack of fiscal stimulus from 2010 to 2016.  

From 2017 to 2018, Trump tax cuts resulted in trillion dollar deficits (5% of GDP) during the peak of an economic expansion, unheard of in US history, and then the Rona fiscal bazooka + Fed unlimited QE rained money down on everything in 2020 and 2021.  

After so many injections of both pain killers and amphetamines, the patient is completely addicted to stimulus.  Now comes 2022, where Biden is having a hard time shoving more pork down people's throats with his low approval rating, putting some doubt on whether the Build Pork Bigger package will pass.  And with Powell now on his way to being renominated, he no longer has to pretend that inflation is transitory or play dovish softball.  He got what he wanted (4 more years of power), and he'll do what he has to maintain that power: pretend to fight inflation with tough talk and a few rate hikes, at least until the crap hits the fan.  

SPX valuations are at all time highs on a price to book and price to revenue basis, and near all time highs on a price to earnings basis.  The Fed is aggressively signaling tightening and midterm elections are only 10 months away.  Republicans are set to take over Congress from 2023 and will block any attempts by Biden to push through more pork, fiscal stimulus will be limited until at least 2025.  The Fed, with inflation raging and a Powell that has job security for at least 4 more years, don't have the luxury or the need to support the stock market for the time being.  Fed is off the table in regards to restarting QE or doing rate cuts at least for a year, and most likely longer.  

So the patient is on his own, for the first time since 2015-2016, when there was no QE and no fiscal stimulus.  Only this time, with much higher valuations and household equity allocations.  And even worse demographics and productivity trends.  In 2015, you had a 15% correction, under more favorable conditions.  That was a 300 point SPX drawdown from top to bottom.  A 15% drawdown in SPX in 2022 is 700+ points.  Very doable, but it could go up to 5000 first before going below 4300, so I wouldn't rush out there to get short. 

When the patient finally gets off all the drugs, what you are left with is a body wrecked from drug addiction and crashing hard from the withdrawal effects.  Thinking about whether the Fed hikes 2 times or 4 times is missing the point.  Its about the absence of stimulus, not the presence of tightening.  A Fed funds rate at 50 bps or 100 bps doesn't make much of a difference.  A Fed that is willing to pour in $120B+ a month or not is a big difference (Fed is even talking about reducing the balance sheet in the 2nd half!).  A government doing more money spew/passing more pork stimulus or not is a big difference.  

We got the CPI "bad news" event out of the way, and as usual, the market rallied after it came out.  But after a 150 point SPX rally over 48 hours, I am expecting the rally to stall out from here and head back south over the next few days.  After this choppy period passes (maybe 1 to 2 more weeks of chop from 4550 to 4750), expecting another confounding rally that will leave many scratching their head.  They're not going to make it easy for bears to make money shorting just yet.  Its almost too obvious to just blast off on the short side after the Fed has gotten hawkish and expect it to go straight down.  In 2015, there was quite a long period of sideways chop before the waterfall decline in August.   Expecting a similar situation here, where you get a sideways market for a few months, get investors complacent before bottom falls out. 

Dispersion During Selloff

I am sure many saw yesterday's price action after a 4 day pullback and are assuming that we have another one of those 2021 style V bottoms and we go straight up from here.  I don't expect it to be that simple this time around.  

The main reason being monetary and fiscal policy.  Its pointing to the obvious, but the answers are usually right in front of us if we don't get caught up in the noise of the daily headlines.  2021 was a bazooka fiscal + monetary policy year.  Just like 2020.  So people get used to it and lose sight of the power of that 1-2 money spew combo.  The rate of change in 2022 is deeply negative for both fiscal and monetary.  That is the big monster under the bed.

The stock market always looks forward, but the stock market "experts" keep talking about how growth is going to stay strong because of the leftover unspent/saved stimulus money, stronger job market, earnings will be strong, less supply chain problems, interest rates are still low, etc.  That's looking in the rear view mirror.  Earnings are a lagging indicator.  Jobs are a lagging indicator.  

Twitter provides a steady data stream, and most of it doesn't add much value but occasionally you will find some good nuggets.  Here is one from yesterday:  

It agrees with my past observations, that you get the best bottoms when everything is selling off together.  Right now, you are seeing some sectors doing really well (financials, energy) and some sectors doing really poorly (tech, semiconductors, biotech).  Dispersion is bearish when the markets are weak.  That's why the Hindenburg Omen, although with its fair share of failed signals, is usually a canary in the coalmine when you see lots of highs along with lots of lows when markets are around 52 week highs. 

We got a sharp intraday reversal off of oversold conditions yesterday.  SPX 4580 was voraciously bought up by dip buyers and it closed up 90 points off the intraday lows.  That is not common.  It doesn't give you the all clear signal, but it does tell you that there are still a lot of buyers underneath waiting to buy at cheaper levels.  At the same time, with the market now pricing in a more hawkish Fed with at least 3 rate hikes and the start of QT later this year, you have a definite psychological ceiling above for the time being, at least until you a get more of a washout and cleanse of long positioning.  I did use the weakness to enter a long in SPX, and looking to sell around 4720.  

Considering the above, and the lack of fear yesterday, I don't expect any V bottoms and expect the market to stay choppy, within a 4550 to 4750 range until the FOMC meeting on January 26.  I don't feel comfortable shorting because of 1. put call ratios are above average levels. 2. possibility (even if small) of getting stuck in a V bottom grind up higher.  Playing the long side during this chop, but don't want to hold long for more than 3 trading days, aware of the risk of another downdraft.

Treasuries trading very weak, reminds me of 2018, when you had a hawkish Powell and  speculators heavily short and the market kept going lower anyway.  Would not surprise me to see 10 year yields go to 2% by March, but reluctant to short.  Not really a tradeable market, too early to go long, and the short side is too crowded for my liking. 

A Walk Back through Time (2000-2021)

I've been thinking about how this bubble will play out and while history doesn't repeat, it does rhyme.  As the years go by, the more I realize that you can't lose the forest for the trees.  One can get so caught up in the day to day news flow and price action, and miss the big picture.  Let's look at the current market and compare it to the past from the perspective of 5 big picture items:  1. Monetary and fiscal policy  2. Macroeconomic fundamentals ex. goverment policy  3.  Stock market valuations 4. Bond yields  5. Investor psychology and behavior 

I know some people will disagree that this is a stock market bubble, but I assume most readers of this blog will agree that its either a bubble or a very richly valued market.  So with that bubble assumption, let's go from 2000 to 2021, to compare the situation at the start of that year versus now (Advantage = more bullish in that year.) 

2019-2021: Not too many similarities there.  

2018:   

1. Powell was more hawkish then than he will be in 2022.  Fiscal policy was also loose in 2018 with the Trump tax cuts and now with all the residual savings from the bazooka Covid pork barrel in 2020 and 2021, and probably Build Pork Bigger package coming in 2022.  Advantage 2022. 

2. Macro fundmentals marginally better than now, more global growth in 2018 due to faster growing China.  Inflation and commodity prices were lower.  Advantage 2018.

3. Valuations were much cheaper in 2018.  Lot more froth in 2022, retail and institutional investors much more heavily invested in equities.  Advantage 2018.  

4. Bond yields at 2.50% 10 year and rising.  10 year yields around 1.7% now and rising.  Counterintuitively, unlike what you hear on CNBC and the TINA theory, higher bond yields imply cheaper valued bonds, with more potential upside, and thus providing a better hedge for equities.  Advantage 2018. 

5. Investors much more complacent and much more belief in the Fed put and much more "they will not let it crash" thinking now than back in 2018.  Much higher equity inflows over the past year than in 2018.  Retail investors were much less interested in stocks and less invested than they are now.  Advantage 2018.  

2018 looks more bullish than 2022 on 4 out of the 5 categories.  

2016-2017:  Not too many similarities, 2017 had a Fed that was starting a tightening cycle but SPX was not technically overextended after mediocre years in 2015 and 2016. 

2015:  

1. Fed had finished tapering, but would embark on a mindboggling 12 month pause of doing nothing but jawboning with finally the first rate hike in December 2015.  No fiscal stimulus, it was still the budget conscious years, with the Tea Party having a heavy influence on the Republicans and Obama not very bold with government spending. Advantage 2022.  

2. Macro fundamentals better in 2015, even as China was slowing down, as the organic growth rate (population + productivity growth) was higher in US and Europe, as well as the emerging markets.  Advantage 2015.  

3. Valuations were much cheaper in 2015.  No contest.  Advantage 2015.

4. Bond yields at 2.17% 10 year and falling.  Higher yields than now and curve was steeper thus more upside for the long bond than now.  Advantage 2015.  

5. Scars from 2008 still there, retail investors didn't have much interest in equities, most of the interest was institutional.  Most fund flows went to bonds and relatively small equity inflows.  Advantage 2015.  

2015 looks more bullish than 2022 on 4 out of the 5 categories.  

2008-2014:  Fed was stuck on zero rates with no signals for rate hikes.  Valuations much lower, and SPX was not overextended.  No similarities to now.  

2007:  

1. Fed was done with the rate hiking cycle, but was not ready to start a rate cutting cycle yet.  Fiscal policy was limited and passive.  Advantage 2022.  

2. Macro fundamentals arguably worse in 2007 considering it was the pre QE era and before the start of financial repression.  Economy was more susceptible to a recession due to the housing bubble and higher household debt as percentage of GDP in both US and Europe.  Commodity prices were much higher (inflation adjusted). Advantage 2022.

3. Valuations were much cheaper in 2007.  Advantage 2007.  

4. Bond yields at 4.70% 10 year.  Much better hedge for equities than now.  No contest.  Advantage 2007.

5. Scars from 2000-2002 dotcom bust still there, public was much more interested in real estate than equities.  Much lower household allocation towards equities than now.  Advantage 2007.  

2007 looks more bullish than 2022 on 3 out of 5 categories.  

2004-2006:  Stock market was still well off of all time highs set in 2000, not much investor enthusiasm, SPX was not overextended.  

2001-2003:  SPX was in a bear market, totally different environment. 

2000:  

1.  Fed had just started a rate hiking cycle, but most only expected 2-3 more hikes.  More hikes expected now.  US was running a budget surplus!  No contest.  Advantage 2022.  

2.  More organic growth (younger population, higher population growth rate, higher productivity growth) in all the developed markets and in China.  No contest.  Advantage 2000. 

3.  Valuations were extremely high in 2000.  But from a potential earnings growth perspective, cheaper than in 2022.  Advantage 2000.

4.  Bond yields at 6.50% 10 year.  A totally different world in fixed income where yields were much higher than inflation.  Extremely good positive real yield hedge for equities.  No contest.  Advantage 2000.

5.  After the great bull market from 1982 to 1999, equities were the most popular they've ever been in US stock market history.  Rampant speculation in internet stocks.   Early 2021 comes close, but can't match that speculative fervor.  Household allocations to equities are similar to now.  Overall investment sentiment was more bullish in 2000.  Advantage 2022.   

2000 looks more bullish than 2022 on 3 out 5 categories. 

Since 2000, there are 4 years that somewhat resemble the investing environment in 2022 (2000, 2007, 2015, 2018).   They are all less bearish than 2022.  All 4 of those years had a greater than 12.5% down move in SPX.  2 of the 4 lead to bear markets.  

Objectively looking at those 4 years, 2000 and 2018 seem to be the most similar to the current market.  2000 from an investor sentiment/equity allocation/valuations perspective, 2018 from a Fed/fiscal policy/macro environment perspective.  Get ready for a waterfall decline in 2022 of at least 600 SPX points, and a good chance at a start of a new bear market.  

On the current market, covered the remaining index short and neutral on the market.  Would not surprise me if it either went to 4800 or 4600 from here within the next 2 weeks.  Now I am a buyer of dips down towards 4600.  Not interested in shorting until we make 1. new all time highs and 2. It is February or March.  Done with shorting for January. 

Shorting SPX is a Hard Game

There are much easier ways to make money than shorting SPX.  Maybe it is just hubris or the fact that it looks like a huge bubble, but the allure of shorting the SPX is always there.  Most of the time, that allure should be resisted, because the odds are against you, and the money flows are against you.  

After a long break from not shorting the SPX, I came back into it at the end of the year, expecting an early January selloff.  And it tried on Monday, but the forces on the buyside are quite strong, stronger than I expected.  I don't put too much weight on one day of trading, but it does have a marginal effect on my view.  I have less conviction today than I did at the end of last week just because of the way it bounced back so easily from that intraday drop and effortlessly has gapped up to a new all time high.  That's despite the bond market acting quite weak at the start of the year.  

I am still short, but will not add, and I'm probably going to reduce the position to match the lower level of conviction I have about a short term pullback.  I'm still favoring a pullback within 2 weeks, but probably a much shallower one than I originally expected, perhaps down to 4700 before making another quick bottom and going to 4900+ by February.  And it could easily just grind higher from here without a pullback and keep going higher.  That is the risk scenario for the short. 

In hindsight, it seems like the Omicron flush out in late November/early to mid December was enough of a purge to clear out the weak hands and set the stage for another multi month bull move higher.  I doubt we see another trip down to 4600 this month.  The weakness in bonds is the biggest reason that I'm still short.  If bonds find a bottom again around 1.65-1.70% 10 yr yields, then we could see another grind up higher.  The only way stocks will have a sustained drop is if the bond market doesn't provide that negative correlation hedge vs. equities during corrections.  We are getting closer to that scenario as the Fed moves on from supporting markets to trying to keep inflation from getting out of control. 

I underestimated the bull side again, their eagerness to put more money into TSLA and AAPL and not bitcoin and meme stocks shows they're becoming pickier about where they pile into.  The group of stocks getting the money flows is shrinking, much smaller than early 2021, and with the flows into equity funds still high, it leads to big up moves even in the mega large caps like TSLA and AAPL, even though fundamentals are getting worse.  This behavior is consistent with what happens at the final stage of a bull market, as prices disconnect from fundamentals and investors pile into a small group of names which are still outperforming.  

The other day, I even heard an investment "expert" mention AAPL as being an attractive alternative to investing in Treasury bonds, as far as safety and capital preservation.  You know that you're very late in the bull market when you start hearing things like that.  But that's not going to help anyone in their day to day trading, just something that caught my attention and puts things into context about what stage of the bull market we are in.