The Hamptons Spread

The stock holders seem to be on vacation, with hardly a worry, as their portfolios keep increasing in value, with little urgency to sell.  It appears to be a Alfred E Neuman offshoot of the O'Hare Spread.  Instead of going all in on futures and flying to O'Hare to get out of the country, just in case you lose it all plus more, its going all in on US megacap tech stocks and going to the Hamptons, without a worry in the world, looking to spend your stock market gains before they happen.  With the confidence that megacap tech stocks will keep going higher, those buying the Hamptons Spread go ahead and plan their vacation looking to spend their growing wealth from their large cap, tech heavy portfolios. 

There is little excitement about the overall market.  I don't see the enthusiasm for the SPX.  There is complacency, but very little enthusiasm outside of a few big cap tech stocks that are riding the AI gravy train.   So with so little excitement, how can this market just keep going higher and higher, with just tiny pullbacks, with seemingly more upside vol than downside vol.  The moves higher are quick and fast, while the moves down seem slow and labored.  The strength is uncanny.  Its hard to explain, other than those holding big cap stocks and index funds are just not very eager to sell.  Its not a lot of buyers that are moving stocks higher, it is the dearth of sellers (in the Hamptons?  on yachts cruising to Europe?) that allow for this steady move higher with minimal resistance.

Historical patterns just aren't holding anymore.  In the past, when the Russell 2000 lagged the SPX so badly, usually a pullback in the SPX was just around the corner.  Not anymore.  The Russell 2000 weakness vs SPX didn't signal anything in 2023, as the SPX just kept going higher and higher despite the Russell lagging all the way.  Same thing is happening in 2024.  The Russell 2000 is no longer providing that leading signal for the SPX, as its just trading in its own little world, often times opposite of the SPX.  Its almost as if some pod shops had on a huge pair trade long Nasdaq 100 and short Russell 2000.  Maybe that is what explains the bid in Russell 2000 on Monday despite the Nasdaq 100 weakening.  

I didn't have a great feeling about the SPX short position last week when I saw so many mentions of the bad breadth and narrow leadership of the market, implying that the market was due for a pullback.  It is never a good feeling to have your thoughts repeated by those on CNBC.  I'd rather be on the other side of their trades than have them join my side.  But I still can't ignore the risk off signals from the poor performance of economically sensitive stocks, poor breadth overall, as well as weakness in risky assets like bitcoin.  They have been leading indicators of future SPX weakness in the past.  Maybe there is just so much government money sloshing around that the rich don't feel a need to sell stocks to continue their conspicuous consumption.  But I'm not willing to make that bet.  As much as this market is frustrating the bad breadth bears, the SPX is so overextended and overvalued, that the better risk reward is the short side from mid July to early October. 

Of particular note on Monday was the sharp drop in NVDA, even though the Nasdaq 100 and SPX were only down a few bps.  With hindsight it looks clear now that we got the blowoff top in NVDA last Thursday, as the uptrend was just too steep, the optimism and hype just too thick, for the move to sustain for much longer.  It is an important marker for the AI trade, as you saw a lot of big reversals in AI related names like AVGO, TSM, MU, ARM, and DELL.  This is either the final top of the AI bubble, or first of a double top topping pattern in all likelihood.  That double top could have a slightly higher high for the 2nd top, but no big breakout from the highs made last week.  Looking back at past momentum bubbles, we probably get some consolidation at this new higher range, with one final last gasp rally sometime near the end of the year.  After that, you likely see a brutal bear market for all the AI plays in 2025.  

It still feels a bit early to put on a longer term short, as the selloffs have been minor and the bond market has been strengthening lately.  10 year yields are around 4.25%, down from 4.70% in April.  Its enough of a rally to keep stocks from falling too much from here.  If you get some renewed weakness in the bond market and more optimism about the economy in the coming weeks, that would be a better spot to go short.  

The COT data showing futures positioning came out yesterday, and it looks like asset managers didn't add longs into the 2% SPX rally from Jun 11 to Jun 18.  Asset managers positions hardly moved.  It appears this rally is not being met with a lot of new buying.  It looks to be a mix of short covering, dealers delta hedging options on the way up, and corporations buying back stock, just before the stock buyback blackout period starts near the end of the month.  

I was expecting more weakness into the post triple witching opex time period.  While we are pulling back, I was looking for more, considering how much the SPX went up the last 2 weeks, and how weak the AI names have been.  With the post opex weakness window shortened by the upcoming end of quarter, I got out of most of my shorts yesterday and will cover the remaining shorts today.  The short play was disappointing, but we are entering a seasonally strong period of the calendar surrounding the end of June and early July, which for some reason (summer complacency, lack of eager sellers during the summer holidays) are usually a strong period for the equity market.  I will not fight that seasonality and will be on the sidelines waiting for a better spot to put on shorts.  Its tough fighting such a strong momentum market, so one has to be picky choosing when to enter shorts and look for a reversal.  However, a reversal does feel like its due within the next 1-2 months, given all the secondary signals showing weakness as mentioned in previous blog posts.  I won't be staying on the sidelines for long, perhaps coming back to the short side in the middle of July.