Tuesday, October 23, 2012

False Dawn Or False Dusk

Much like watching animals in a zoo, particularly dangerous ones, rangey markets create excitement the closer they get to their boundaries. Last week's excitement in the bull pit has already faded as the beast retreated back into the shadows and today the excitement is in the bear enclosure as equities approach various supports. But TMM are as sanguine as ever towards many of the screams of encouragement.

As far as earnings seasons go, this one has been somewhat disappointing. While earnings have beaten expectations, they have not done so at historical beat rates, revenues have missed and guidance has been rather downbeat. The question, as always, when interpreting such releases is deciding whether (a) the information is new, and therefore forward looking, and (b) what the implications of that news are. So what do we learn from these reports then? Global growth was pretty weak over the quarter - particularly in China and in Europe, CapEx intentions have fallen in the face of electoral and fiscal cliff-associated uncertainty. Well TMM would argue that none of those are particularly ground breaking observations, in the light of the macro data over the summer and the constant barrage of debate around the election and the fiscal cliff. And on the guidance front, it doesn't exactly seem as though corporates know any better than the rest of us, with Caterpillar, for example, forecasting that their earnings over the next year would be in the range +5% to -5%. i.e. - "We'll either make more money... or we'll lose money". Thanks guys, really insightful.

So in our eyes, while bears are excited to seize on disappointing earnings news, TMM reckon these are all a bit backward looking. And there are several reasons why. First, unlike late-2007/early-2008 when earnings news began to worsen, policymakers are no longer behind the curve - cast your mind back to that period, and it was marked by large intra-meeting rate cuts by the Federal Reserve, attempting to catch up with the fast-deteriorating economic data, while the ECB and BoE refused to ease policy due to still worrying about inflation risks. This time around, earnings season has come just a few weeks after the most extraordinary central bank easing measures introduced to date: QE-Infinity and the ECB's OMT. These have had a dramatic effect in easing financial conditions over the past six weeks, the effects of which will not have fed through to the real economy yet - it's just too early. Markets, as forward discounting machines, are likely to concentrate on future earnings, rather than backward-looking ones.

Second, again - unlike late-2007/early-2008 - the economic data has begun to rebound: particularly in the US and Asia, but also in Europe. The bottoming in PMIs, exports in Asia and the reacceleration of China into the New Year are all positive for earnings going forward. Third, it appears to TMM that many are extrapolating the weakness seen in Tech earnings to the broader market, but that masks a rotation that is ongoing and a positive one at that - out of defensives and into cyclicals (See below chart of GS Cyclicals vs. Defensives).

Fourth, the weakness in risk has thus far appeared restricted to equities themselves, as cross-asset correlation has collapsed, as has that of the index itself (see below chart of implied correlation). Add to that the volatility bleed across the board as central bank liquidity suppresses risk premia, and it is hard to get to get too excited about a down trade. That said, as per TMM's last post, we do advocate buying cheap tails for protection.

Fifth, regarding the election and fiscal cliff debate, TMM are of the mind that this is a two stage wall of worry. Once the election is over, that is one hurdle of uncertainty passed, and markets are likely to squeeze higher, no matter who the winner. And secondly, TMM struggle to think of an "issue" that markets have discussed both so much and so early, than the fiscal cliff. The result of that, in TMM's minds, is that the market already discounts a significant probability of going off the cliff, and that even a going over the cliff for a few days until an agreement is made is unlikely to phase markets much beyond a knee-jerk, and certainly not anything like last August's broad de-risking. This is as much a fact of investors not exactly holding a huge amount of risk.

Finally, while last night's late rally was attributed to a spurious article suggesting further FOMC easing, it has been noted by many that there are often mutual fund inflows at the close. And the large nine-week stretch of equity outflows finally came to a close last week. So TMM are of the view that real money is likely to be accumulating length into weakness - and the low volume sell off this morning feels to us as though it is merely HF and CTA activity. Absent major macro news, TMM would argue the old adage applied "don't sell a quiet market". Buy the dip.


amplitudeinthehouse said...

Concur, my thinking at the moment is we're likely to see lower levels to buy the dip, this varies to traders TF.. Think back to the period we're there was no no-mans-land built before QE lift off and it was front run quicker than a NY minute. Things are dicey up here , my money is that real money is sitting lower and when they put a qe3 floor under it we can front run future improving data.. still expect 2012 data to be anemic though.

Hope that makes sense.

Anonymous said...

I agree with your reasoning tough all of the factors that you mention look to me as medium-term drivers. based on what I hear the street used to be flat to short prior to the last bounce and that has been evened out now. In fact the consensus opinion loves risk but there are no immediate catalysts in sight. Which takes the market into technical territory and oscillations due to meaningless noise out EU, US, the rest of the world. We are below 50 MA on SPX, INDU, SX5E. There is no single political person consistent enough and smart enough to keep the line. Technocrats can do only that much without support. The market might be lower for the next few hours or the next few days or till November; long term I am buying but depending on the size of your book there might be a better entry point and if one does not want to be long right now, why not to be short? Nick

Seb said...

charts are wrong way round

cpmppi said...

Thanks Seb - fixed now.

abee crombie said...

I think this is more of a US equity catch up. Good points TMM, no other macro market really making much noise.

But I do disagree with the fiscal cliff argument. I still think there is a good chance of a 2011 style free fall. Technicals in no mans land here and all you need is a couple of "SELL, SELL" algo days, bad news flow and everyone gets cold feet again.

Longer term, Copper and EM have some interesting charts. Bull vs Bear and its inconclusive.

Skippy said...

I tend to concur with Abee.

Clearly the cliff has been well flagged, but the S&P is trading modestly below the all time high. I am not sure that valuations incorporate the impact/threat of a 5% fiscal contraction?

Broadly agree with your other observations, however. Hence a cliff-dive inspired episode would likely be an opportunity to go BOLIVIAN?

amplitudeinthehouse said...

Skip, we can only dream of one happening early next year....yes there is others.....

Leftback said...

DX kissed 80 again and retreated. The Q3 data do seem all a little unsurprising and backward-looking at this point. In the US, Q3 is always sleepy and for crying out loud, it's not like we are going to see a negative GDP print on Friday, just a 1,something again, with most indicators showing an uptick in US consumer spending as gas prices ease, a welcome development into the holiday season.

Yesterday's late rally was on large volume so that's certainly consistent with Real Money going to work. We might well see the same again today or tomorrow. Cyclicals led the rally, interestingly:

Sector Analysis of Yesterday's Ramp

I don't think you can really argue, Nick, that "consensus opinion loves risk" when everyone and their uncle are on the sidelines or in fixed income. Lots and lots of fear out there among individuals and institutions.

A lot of Republican leaning investors are in a funk here and can't get over their political angst over possible tax reform and another 4 years of Big Ears. The fact is that The Great Stimulator is far more likely to be good for equities than the Austerilizers.

Speaking of cheap tail, TMM, (tap finger against side of nose here) our version of cheap tail risk is shorting fixed income via long-dated Treasury options. What if we don't recess? What if the Cliff is rolled out into a Speedbump? What if rates weren't zero for ever? Oooo errrr, TMM.

Leftback said...

A happy day for Tiny Tim as the Treasury prepares to auctions another ton of 2y, on a day when FRBNY sells $7-8B into the market. So a bit of a morning panic is just what the secretary ordered (dons tin foil hat).

Anonymous said...

In a low volume environment that is not likely to change anytime soon (elections, cliff, bailouts across the pond) market makers and punters are driving this market and risk calls across sell side are full of market makers who were waiting for a slight correction to buy risk post QE3, well, they did not get one, probably got in just last week and now we are where we are. Yesterday ramp was just AAPL. As I say it might go higher today or tomorrow or next month but the move today is difficult to fade, or so it seems to me. Nick

Leftback said...

Still sitting in the Kevlar suit, which is not to say that we won't be walking slightly uncomfortably for a few days. It's not been the greatest morning of all time here at TWINE* Capital.

* The World Is Not Ending.

Dee Dee Humberside said...

"xxx declines most since" headlines are popping up again.

Another few PIN days like this and La Paz should be in sight.

basil brush said...

Arf arf arf arf


Leftback said...

Lots of old tosh in the right-wing (Faux News) and financial media over here about how the sell-off is about Obama's proposed tax policies, but in fact the latest tracking polls now actually give a lead to Romney. It's more likely that market participants suddenly have visions of another Hanging Chad election, that kind of uncertainty is never a great thing for risk.

Latest Gallup Polls

We want to repeat once more, that we think the media have got this all wrong. We would argue that the more control the Republicans have in 2013, the more likely the Cliff comes into play and the more favorable conditions would then become for the dollar and fixed income, while the Obama camp should in fact be more friendly to equities and other reflation trades.

Not to get political, (and we are not in general, since although we pay all of our taxes here, we don't have a vote). But why anyone would want to elect a real live private equity guy to run the country is beyond me. Billionaires will continue to enjoy their special 13% tax rate and their role as "job creators" - in India.

Meanwhile the rest of us watch the middle class deductions and social safety nets wither away and a series of anti-progressive consumption taxes introduced. Romney will waste no time outsourcing the Congress to Bangalore and renting out the Capitol building to McDonald's..... O Brave New World.

Dee Dee Humberside said...

I agree that unless Romney and Ryan do a 180° (not impossible obviously), past the kneejerk bull reaction, i am not sure equities are going to like the austerlitz medicine very much. It's one thing for a lilliputian economy such as that of the UK to act cute and listen to the supply side sirens of austerity, quite another thing if mammoth US plays that game. Big Ears otoh, more of the same, and it has been pretty good for the risk side so far.

That said, the smart boys watching US elections (nate silver among others) insist that the MSM make this race appear much closer than it is in reality. State level polls while not definitive sound not so encouraging for Mr Fifth Yorkshireman. And states are what matters in the end.

That said, the role reversal irony if Hussein wins it all despite losing the popular vote is not going to be lost on us (complete with "stole the country" tirades etc)

abee crombie said...

TMM, get ready to don the gloves at your favorite time tomorrow. Looking for a turnaround wed.

Yen here is getting suspicious. BoJ i cant here you

iPad Mega coming out soon, along with iWatch and iGlasses. Like gold the religion seems to have lost some steam. Easy money has been made, IMO.

Anonymous said...


Anonymous said...


Anonymous said...

C says'
Well,outperform doesn't always equate to outright wins,but at least my small cap didn't get capped to the same degree as the blue chips .I'll give it a bit more wiggle room yet.

Anonymous said...

why does anyone pay any attention to the BOJ or the MOF? They have proven themselves utterly useless and the psychology has begun to shift on Mr. Ben. When too many people adopt a belief system based on flawed logic it becomes dangerous. The market has been running on QE liquidity and reality has sunk in that after all this intervention corporates are missing top line right left and center. Everyone and their mother has accepted the Bernanke put and when that happens markets usually do the opposite.

This maybe a laymans view of things but history has always proven this correct. Once something becomes too good to be true it usually is.

Anonymous said...

C says,
Top lines are missing. The popint is if a simpleton like me could already anticipate that based upon earlier European woes then surely the event itself is not news therefore why should it have any lasting impact upon the market. this becomes more important still because events hve moved on. Europe thogh still hampered is no tin the crisis we have just mentioned. The US housing market appears to have stabilised and this is actually the very earliest sign that you would normally look for in an economic recovery and again lendng/banks is the next logical event to look for. These are bottom signifiers ,not tops.
If the latter were to change then bets are really off,but the fact that the data on these is what it is makes the whole damn mess a great deal more opaque than your comments depict it to be.

Anonymous said...

Flash PMIs for October are of a concern, I would have expected to see a marginally better number taking into account OMT and spreads