Dear subscribers,
This is update #1527 for Monday night, October 3, 2011.
The sixth panic of the past two months finally caused some general equity indices including the S&P 500 to break below their support levels from August 8, 2011, while other indices and funds including QQQ and SMH have been forming higher lows. The well-advertised "downside breakout" caused a sharp retreat during today's after-hours session, as investors pushed S&P 500 futures nearly one percent below their closing levels before recovering some of their worst declines and still ending the after-hours session down 0.55% from the 4 p.m. price. This proves that investors are so frightened that they would prefer to sell more than a half percent below today's closing price rather than have to face the uncertainty of what tomorrow may bring. This is of course the stuff of which important bottoms are generally made, as we have experienced on numerous past occasions including November 19-20, 2008 and March 6-9, 2009. Similar after-hours fear prevailed on Monday, August 8, 2011. Investors continue to crowd into already dangerously overbought and overvalued safe-haven assets including TLT--which climbed above 124 to a new record intraday high during today's after-hours session--along with the U.S. dollar index reaching its highest point since January. A major reversal is likely to occur soon, and should be particularly intense.
Chartists who track the S&P 500 are all simultaneously screaming "downside breakout". These are the same chartists who did likewise on November 19-20, 2008, in late February and early March 2009, and on many similar occasions, just before we had some of the strongest rallies in history. With so many traders using charting techniques, and the market always punishing any popular method of trading, it's clear what will happen to the followers of these chart-slave theories. In addition, the stock market is not going to reward the army of amateurs who sold their retirement equity funds near all lows during the past two months. Remember all the false upside breakouts we experienced during the past year, all with similar results.
I often receive the most useful information from the tone of the e-mail correspondence I receive. During the past few hours in particular, readers have expressed an unusual degree of nervousness and self-doubt, with many people telling me how I should be investing rather than engaging in a dialogue or asking questions. This is quite rare, and in the past has always coincided with a major trading opportunity. Emotions are always most extreme whenever the financial markets are closest to historic extremes.
Quite a few people proclaimed that they would purchase equities as soon as the recent support levels were broken to the downside. I sincerely doubt that many of them have taken or will take action; they're paper tigers who kept talking about buying stocks in late 2008 and early 2009 but never did anything. When all is said and done, a lot more is said than done.
VIX rallied above 45, which is a reliable sign of a prime time to buy equities with rare exceptions such as 2008. Since everyone remembers 2008 and so many are expecting a repeat, now is the time to be most aggressive in purchasing equities and their related funds:
Most investors believe that they've "learned the lessons of 2008", and will therefore happily sell after a decline of 20% in order to protect themselves against an additional pullback of 30%-40%. People are saying to themselves: "the market can fool me once, but not twice". Of course, with everyone acting likewise, equities will move sharply higher instead of sharply lower:
What will U.S. Treasuries do next? What if you knew that Bill Gross was recently a heavy buyer?
The U.S. dollar index rallied to an early evening peak of 79.695, its most elevated point since January 14, 2011, before ending the day near 79.60. I believe that the U.S. dollar index will experience an intermediate-term retreat over the next several weeks. A substantial percentage of subscribers and an even greater share of nonsubscribers do not believe in the possibility of a strong long-term rally for the U.S. dollar in 2011-2013, which could continue through at least part of 2014 since greenback rallies tend to last for about six years. In spite of what you hear in the media about its allegedly being on the verge of an "imminent collapse", the U.S. dollar index has been in an important bull market since March 16, 2008, when it had completed an all-time bottom at 70.698. Since then, the U.S. dollar index completed its first higher low of 71.314 on July 15, 2008; its second higher low of 72.696 on May 4, 2011; its third higher low of 73.421 on July 27, 2011; its fourth higher low of 73.452 on August 17, 2011; and its fifth higher low of 73.525 on August 29, 2011. On September 26, 2011, the U.S. dollar index climbed to a very early morning peak of 78.863, its highest level since January 21, 2011. On August 29, 2011, the U.S. dollar index slid to a very early morning bottom of 73.525, its lowest point since August 17, 2011. On August 17, 2011, the U.S. dollar index slumped to a mid-morning bottom of 73.452, its lowest level since July 27, 2011. On July 27, 2011, the U.S. dollar index retreated to a very early morning bottom of 73.421, its most depressed mark since May 5, 2011. On May 4, 2011, the U.S. dollar index slid to a mid-morning bottom of 72.696, its lowest point since July 29, 2008. On January 10, 2011, the U.S. dollar index climbed to an early morning peak of 81.313, its most elevated level since December 1, 2010. On November 30, 2010, the U.S. dollar index rallied to an early morning peak of 81.444, its most elevated level since September 20, 2010. Relevant past peaks for the U.S. dollar index include 88.708 on June 6, 2010, 89.624 on March 4, 2009, 92.63 on November 16, 2005, 99.49 on August 26, 2003, and 120.99 on July 5, 2001. I expect the U.S. dollar index to peak in 2013 or 2014 between 100 and 120.
TLT, a fund of U.S. Treasuries averaging 28 years to maturity, touched a pre-market low of 120.70, and then soared to an after-hours peak of 124.37, nine cents above its previous record, before ending the day up 3.24 at 124.04. The nearly vertical ascent for TLT during the past few months is typical of a blowoff top which will lead to a substantial plunge. After spending 4-1/2 months below its 200-day moving average, TLT had struggled for more than three months with this key level before knocking out many who sold short because Bill Gross had recommended such foolish action. TLT thereby soared to a double top with its all-time zenith of 123.15 which had been achieved on December 18, 2008. Lately, Bill Gross has been aggressively buying Treasuries. TLT is likely to slump back to about 96 and possibly lower where I will progressively repurchase it, probably in the fourth quarter of 2011 and/or the first quarter of 2012. I had repeatedly bought TLT into weakness near and below 92 dollars per share, usually using 0.42% of my net worth per trade, between mid-December 2010 and mid-April 2011. I also bought VUSUX almost every day that TLT was near 92 dollars per share or below, with the largest purchases at the lowest prices. Both VUSUX (VUSTX < 50k) and FLBAX (FLBIX < 100k) are nearly identical to TLT, except they average about 22 years to maturity instead of 28 years; they are ideal for accounts where you are not permitted to own TLT. Non-U.S. residents will enjoy even greater gains in home-currency terms as the U.S. dollar rallies strongly during the next two years. On September 23, 2011, TLT rallied to an 8:17 a.m. zenith of 124.28, a new all-time high. On September 22, 2011, TLT soared to a 2 p.m. peak of 123.87, a new all-time high and a half percent above its previous record from December 18, 2008. On July 25, 2011, TLT slumped to a pre-market bottom of 94.75, its most depressed reading since July 7, 2011. On June 30, 2011, TLT slumped to a mid-morning bottom of 93.29, its lowest level since May 2, 2011. On April 8, 2011, TLT slid to a pre-market bottom of 89.64, its lowest level since February 18, 2011. On February 10, 2011, TLT retreated to a late morning bottom of 88.14, its lowest point since April 7, 2010. On August 25, 2010, TLT surged to an early morning peak of 109.34, its highest level since January 28, 2009. On April 7, 2010, TLT slumped to an early morning bottom of 87.30, its lowest point since September 20, 2007.
VIX is probably the best-known measure of equity index implied volatility, which is synonymous with investors' fear of an upcoming bear market. VIX dropped to a mid-morning low of 41.51, and then surged to a late afternoon peak of 45.55, its highest level since August 9, before closing up 2.49 at 45.45. On September 16, 2011, VIX slid to an early morning bottom of 30.43, its lowest point since August 31, 2011. On August 31, 2011, VIX slid to an early morning bottom of 30.16, its lowest mark since August 5, 2011. On August 19, 2011, VIX rallied to an early morning peak of 45.40, its most elevated level since August 9, 2011. On August 18, 2011, VIX soared to a late afternoon high of 45.28, its highest point since August 9, 2011. On August 9, 2011, VIX rallied to a post-Fed-announcement high of 47.56. On August 8, 2011, VIX soared exactly 50% to its intraday peak of 48.00, its highest reading since May 21, 2010. On July 22, 2011, VIX dropped to a noon bottom of 17.14, its lowest reading since July 8, 2011. On July 1, 2011, VIX slumped to a mid-afternoon bottom of 15.12, its most depressed mark since May 2, 2011. On April 28, 2011, VIX plummeted to a late afternoon bottom of 14.27, its lowest reading since June 21, 2007. VIX dropping below 15 on an intraday basis demonstrates an astonishingly dangerous level of investor complacency toward the potential of a double-dip recession, and is similar to the VIX levels in 2007-2008 preceding the last severe global equity bear market. This makes a major bear market in global risk assets even more likely through 2012-2013. On May 21, 2010, VIX soared to an early morning peak of 48.20, its most elevated mark since March 10, 2009.
The S&P 500 index rose to a mid-morning high of 1138.99, and then plummeted to a late afternoon bottom of 1098.92, its lowest level since September 8, 2010, before closing down 32.19 at 1099.23. In today's after-hours session, the equivalent fair value of the S&P 500 traded as low as 1090.20--a reading last seen on September 2, 2010--before closing at 1093.20. Because of the extreme pessimism and recent heavy selling by amateurs, while top corporate insiders have demonstrated an unusually high ratio of buying to selling since early August and with VIX repeatedly climbing above 45, a counter-rally toward and probably beyond 1300 is likely during the next few months. Its long-term bear market will remain intact until the S&P 500 ultimately completes a nadir below 500 and possibly below 400, perhaps in 2013. The S&P 500 has not been below 500 since March 31, 1995, and it has not been below 400 since October 5, 1992--before Bill Clinton was first elected President of the United States. On September 20, 2011, the S&P 500 rallied to a late morning peak of 1220.39, its highest reading since September 1, 2011. On August 31, 2011, the S&P 500 rallied to a mid-morning peak of 1230.71, its most elevated mark since August 4, 2011. On August 9, 2011, the S&P 500 slumped to a post-Fed mid-afternoon bottom of 1101.54, its most depressed reading since September 9, 2010. On July 21, 2011, the S&P 500 climbed to a mid-afternoon peak of 1347.00, its highest mark since July 8, 2011. On July 7, 2011, the S&P 500 surged to a mid-afternoon peak of 1356.48, its most elevated reading since May 10, 2011. On May 10, 2011, the S&P 500 rallied to a late afternoon peak of 1359.44, its highest level since May 3, 2011. On May 2, 2011, the S&P 500 rallied to a mid-morning peak of 1370.58, its highest level since June 9, 2008. On August 27, 2010, the S&P 500 retreated to a mid-morning bottom of 1039.70, its lowest point since July 7, 2010. On July 1, 2010, the S&P 500 slid to a late morning bottom of 1010.91, its lowest mark since September 4, 2009.
GDX, a fund of primarily large-cap gold mining shares, rallied to an early morning high of 56.72, and then slid to a late afternoon low of 54.41 before closing down 74 cents at 54.45. Since its intraday high of November 7, 2007, gold bullion gained 96.9% while GDX added 1.1%. Would you call this a significant divergence? On September 29, 2011, GDX slid to a late afternoon bottom of 54.09, its most depressed mark since August 5, 2011. On September 21, 2011, GDX rallied to a mid-afternoon (pre-Fed) peak of 66.90, just 8 cents below its all-time high from September 9, 2011. On September 9, 2011, GDX climbed to a mid-morning all-time high of 66.98. On August 5, 2011, GDX slumped to a noon bottom of 53.78, its lowest level since July 1, 2011. On June 16, 2011, GDX slumped to a late afternoon bottom of 51.10, its most depressed reading since August 25, 2010. On December 7, 2010, GDX rallied to an early morning zenith of 64.62, a new all-time high. On July 28, 2010, GDX retreated to an early morning bottom of 46.80, its lowest point since May 21, 2010.
On Tuesday, September 6, 2011, December 2011 gold futures soared to a very early morning all-time zenith of 1923.70 U.S. dollars per troy ounce. On Monday, April 25, 2011, May 2011 silver futures achieved a post-midnight zenith of 49.820 U.S. dollars per troy ounce, the highest level for silver since it completed a nearly identical intraday peak on January 21, 1980. So far, the highest point in the cycle for SLV was its April 28, 2011 late morning zenith of 48.35. SLV would have traded at 48.71 if it had been available for trading in the early morning of April 25, 2011 when silver futures completed their historic double top. On April 21, 2011, Market Vane reported a 96% bullish consensus on silver, one of the highest readings ever recorded since silver began trading on the first business day of 1972. Silver's behavior in 2008-2013 has so far been quite similar to that of the Nasdaq in 1998-2002; if you divide the Nasdaq by 100, you will see some amazing parallels. This is primarily because all bubbles behave nearly identically. I am also expecting gold to plummet dramatically from its peak level, perhaps by more than 50%, within two years, with numerous strong upward bounces along the way.
Today's main topic is "apocalypse now?"
The media have been full of gloomy prognostications about the financial markets. Just three months ago, there was a nearly identical and opposite extreme of optimism. Technical chartists, foolishly believing that you can determine the future of the S&P 500 by looking at the recent past of the S&P 500 and not at all deterred by dozens of failures of this method during the past several years, are convinced that today represented a "downside breakout" which will lead to all kinds of catastrophic results. E-mail correspondence has rarely been more negative, even during the fourth quarter of 2008 and the first quarter of 2009 when I became far more heavily invested in equity funds (eventually reaching 88% of my total net worth).
During the past two months, we have had all-time record withdrawals from retirement equity funds. Are amateurs going to be rewarded for believing that we will have a repeat of the last bear market? They think that since they sold after a 20% decline, they're still way ahead of the game because they're going to "protect themselves" against an additional slump of 30% or 40%. Before 2008, they never would have reached such an absurd conclusion; they would have decided--as they did in September 2008--that since the "average bear market" consists of a pullback of 23%, it made sense to buy after the first 20% loss. After suffering the actual plunge of 57.7% for the S&P 500 from its 2007 zenith through its 2009 nadir, investors have adjusted their expectations. Remember when the average investor in a February 2000 poll anticipated an average gain of more than 30% annually for the next decade? Today, Joe Sixpack is certain that he's brilliant to sell after a 20% loss. If 2/3 of investors are expecting a repeat of 2008, and the other third are convinced that we've had a downside breakout, then that leaves no one to actually sell. The huge amount of money which has moved from risk assets into cash will move back into risk assets once equities worldwide have "surprised" nearly everyone by rallying strongly. The least-likely expectation on November 19-20, 2008 was a powerful short-term rebound--and we thereafter had the biggest one-week rally since the 1930s for many equity subsectors. The least-anticipated follow-up today would be a dramatic surge higher.
As a rule, the market will never accommodate any nearly unanimous majority. Whether they're chartists, or are expecting a nostalgic return of 2008, or are simply selling out of fear, there is as close to a 100% consensus as you are likely to see that the stock market is on the "verge of a collapse". In reality, of course, it has already collapsed. Its percentage loss has been much less than during the last bear market, but it is in line with many previous bear markets, and--much more importantly--investors are behaving as though Armageddon has already arrived. If everyone thinks they can protect themselves against further losses by selling, then any further downside becomes strictly limited, while the upside becomes far more likely and potentially explosive. The financial markets will always act in whichever manner will punish the greatest possible number of investors. About the only people who would be rewarded by a stock-market rally would be a tiny minority of recent contrarian buyers. There does exist a rather large number of buy-and-hold investors who might appear in theory to gain from an equity rebound, but they've been mostly doing nothing since 2000 and would not really benefit from even a powerful rally since they'll simply hold on long enough to suffer through the next severe bear market.
If we have a rally for stocks, corporate bonds, and commodities which persists in a choppy fashion through January or February 2012, then a truly elite and minimal percentage of market participants will be savvy enough to actually sell with a net gain--not necessarily at "the top", which will in any case likely be extended for a period of a few weeks or more, but after VIX has once again retreated into the mid-teens. I am always amazed at the number of otherwise intelligent investors who tell me that VIX is useless since, when it's at 45, you don't know if it will first go to 55 before retreating. That obviously misses the point. If you buy stocks when VIX is at 45, then it doesn't matter how high VIX may go first. You're eventually going to make a solid profit on the stocks you buy when VIX is at 45 even if you are behind in the short run when VIX reaches 55 or 65--or 75 or 85. Now that everyone remembers 2008, we're unlikely to revisit extreme highs for VIX any time soon, and perhaps not for the remainder of the decade.
My four largest positions in order three months ago were long TLT, short SLV, short QQQ, and short EWY. I can assure you that all of these positions were highly unpopular, with the possible exception of TLT which was barely tolerated only because after having been reviled for months it was enjoying modest gains by early July. Today, my four largest holdings are once again broadly disliked. It's worth mentioning that my three largest positions in early 2009--GDX, KOL, and RSX--were even more detested because they fluctuated so frequently and periodically suffered dramatic declines. To consistently succeed in the financial markets, you have to consistently make highly unpopular choices.
Investors like to delude themselves into believing that it's going to be different this time. In their fantasies, top corporate insiders--while usually consistently successful--will stunningly end up losing money after having demonstrated one of their highest-ever ratios of buying to selling during the past two months. Amateurs will finally make money this time around, and will end up selling near the subsequent top just to prove it wasn't a fluke: that might make for a great Hollywood movie, but it can't possibly happen in real life. Consider the recent protests in Zuccotti Park in lower Manhattan, which I visited in person last Wednesday to view for myself. Would these protests have occurred three months ago, when there was great optimism about the world's economic future? In my opinion, it would have been impossible. Even the protestors themselves don't consciously realize that, while overtly "reviling" Wall Street and the global financial markets, they're giving the clearest expression of how the financial markets powerfully influence social behavior. It's also no coincidence that Pablo Picasso's "Blue Period" occurred simultaneously with a major global equity bear market. The protestors are reflecting their unhappiness at the uncertainty about their own economic future. No doubt the end of the protests later this year will be credited to "the much colder weather" or "the police response" or something similar, but it will be due to an equity rebound which substantially mitigates the fear over what the next few years may bring. Naturally, when everyone has lost their worry over 2012 and 2013, the next bear market will be ready to growl.
The final stage of any downtrend is often a nearly vertical plunge. Ironically, the most severe bear markets tend to end with a whisper rather than a bang, as we most recently experienced in early March 2009 and prior to that on numerous occasions including August 1982 and June 1949. At other times, such as in November 2008--or September 1974 if you prefer an older example--there is a sudden plunge before it ends. We are likely in the latter scenario, with numerous subsectors plummeting just during the past few trading days. Implied volatilities for some subsectors have approached or surpassed their previous peaks from late 2008 and/or early 2009. Sure, we could continue to suffer in the short run--but now that so many are convinced that we have to suffer in the short run, the short run could end up enjoying a truly incredible rebound.
Being bearish has become trendy--whether it means joining the left-wing protests near Wall Street, or adopting the right-wing attitude that the stock market must continue to lose value as long as Obama remains the U.S. President. In addition to the e-mail correspondence which I discussed earlier, I have received nearly as many telephone calls about the financial markets during the past several hours as I got during the previous two months combined--and it was not exactly a dull two months. The most common question was this: how much longer will the market go down, and by how much? There was hardly even any need to consider the possibility of an imminent rally, so universally is the near-term future assumed to be disappointing. I never like to make foolish predictions about what the stock market may do this week or next week, but the evidence is so compelling that I'm tempted to make an exception and to tell everyone to buy short-term calls on the S&P 500 and the Nasdaq--and even the Dow. Of course I would never actually make such a ridiculously artificial speculation with my own money, but if you're a junk-food junkie then there's no time like the present.
There are innumerable unknowns in the financial markets. One certainty is that any dangerously overcrowded trade must always fail. Practically everyone I know is bearish toward equities today, for a variety of reasons ranging from fundamental to technical to just plain despondent. Many of the same people who wrote in early July to tell me I was an idiot for being bearish, and back in late 2008 and early 2009 to ridicule me for becoming so heavily invested in equities, have come out of the woodwork just during the past several hours. Are they finally going to be right for the first time? I don't have to answer these questions, since the financial markets will respond decisively.
Take care.
--Steve