Well, score one for the bullish crowd. While the deleterious impact of the Doha summit failure on crude was mitigated by the strike in Kuwait and political uncertainty in Iraq, watching Spooz yesterday there never really felt like there was any sense of panic. So when oil started creeping up off its lows, perhaps it was only natural that equities responded in kind.
(Mea culpa for getting the daily return correlation chart wrong in yesterday's post. Macro Man had a spreadsheet full of futures data going back 10 years, and he just copied/pasted from that rather than sourcing fresh data. While he did double check his work when the surprising result came in, clearly he whiffed on something. Apologies.)
It's important not to get too emotionally attached to a position, and despite his irritation with LOL SPOOZ! bullish arguments, Macro Man is in no way wedded at the hip to remaining short forever. Clearly a market that passes on an obvious opportunity to drop makes for a difficult short, and as Macro Man likes to say, you don't get added basis points for degree of difficulty. Regardless, the SPX (or at least the SPY) is bang on the trendline that has contained previous highs, with the all time highs a couple of percent away. If those are breached, Macro Man's out, no tears and no questions asked.
Reader JH brought something interesting to Macro Man's attention vis a vis the SPX, namely the potential for a crossover of the 50 and 100 week moving averages. As of last Friday these were at 2029 and 2023, respectively- very close to crossing over. (Given that the SPX was near its highs 50 weeks ago, in all likelihood they will continue to converge regardless of what Spooz do this week.)
Why is this interesting? Well, since 1980 these averages have only crossed over 10 times. Of these signals, seven have been winners, including every single trade generated since 1989. Although it's a small sample size, Macro Man still takes note when he sees a system that hasn't generated as losing trade since he was a senior in high school!
He takes note....but does he believe? That's where further digging is required. Using Bloomberg's synthetic SPX data going back to 1928, he extended the study further back. This was a fortuitously times starting point, as the first trade generated went short the market in mid-1930. However, over longer periods of time...the performance stinks. Of the 30 trades generated between 1929 and 1979, only 12 were profitable, taking the overall hit rate below 50%.
Now, maybe the nature of the market has changed such that equities are more responsive to this type of signal in 2016 than they were in 1966. Frankly, Macro Man has his doubts. This is the short of challenge that he's facing in his CTA project; trying to balance optimizing results with over-fitting or cherry-picking data. In his experience, the more analytical data you can employ to assess performance, the better off you'll be. In this case, the "recent" performance is certainly intriguing, but put in historical context appears to be more anomaly than holy grail.
(Mea culpa for getting the daily return correlation chart wrong in yesterday's post. Macro Man had a spreadsheet full of futures data going back 10 years, and he just copied/pasted from that rather than sourcing fresh data. While he did double check his work when the surprising result came in, clearly he whiffed on something. Apologies.)
It's important not to get too emotionally attached to a position, and despite his irritation with LOL SPOOZ! bullish arguments, Macro Man is in no way wedded at the hip to remaining short forever. Clearly a market that passes on an obvious opportunity to drop makes for a difficult short, and as Macro Man likes to say, you don't get added basis points for degree of difficulty. Regardless, the SPX (or at least the SPY) is bang on the trendline that has contained previous highs, with the all time highs a couple of percent away. If those are breached, Macro Man's out, no tears and no questions asked.
Reader JH brought something interesting to Macro Man's attention vis a vis the SPX, namely the potential for a crossover of the 50 and 100 week moving averages. As of last Friday these were at 2029 and 2023, respectively- very close to crossing over. (Given that the SPX was near its highs 50 weeks ago, in all likelihood they will continue to converge regardless of what Spooz do this week.)
Now, maybe the nature of the market has changed such that equities are more responsive to this type of signal in 2016 than they were in 1966. Frankly, Macro Man has his doubts. This is the short of challenge that he's facing in his CTA project; trying to balance optimizing results with over-fitting or cherry-picking data. In his experience, the more analytical data you can employ to assess performance, the better off you'll be. In this case, the "recent" performance is certainly intriguing, but put in historical context appears to be more anomaly than holy grail.
25 comments
Click here for commentsMM - if this line is breached, are your views re spx (i.e. rangebound) changing, or are you just referring to your short only ?
ReplyGood question. I still think rangebound, though obviously if new highs are made and extended then that has to come into doubt. It does strike me though that the setup could be rip into Fed/month end, suck in all the underweights (which do appear to be disconcertingly widespread), and then spit them all out in May per the usual.
ReplyMM, while everyone here is Spooz-centric or Stoxx-centric, spare a thought or two for the broader US market. Take a look at the chart for IWM, still in a downward trend and encountering overhead resistance in terms of a downward trend line. Worth a chart or two on a slow day? Just a thought from "über-bear" (yawn) LB.
ReplyIt seems Lefty, Russell has broken that trendline already along with some MAs. NQ is still is topping phase but am afraid SPY will have the faith of Russell and close over its trendline...and the happy campers jump on it. Must admit price action has been very telling for the last week or so in risk assets, whether it is cmdty FX, eq or general commodities. We are likely to have a burst higher still.
ReplyMM - Your comment about underweights are what I have been concerned about too - Sentiment still stinks, so a push higher is in I think.
ReplyAlthough the insiders are selling now (http://www.barrons.com/public/page/9_0210-instrans.html)
MM, how relevant do you think the far back historical data is for your CTA test? What's the point for fitting that?
ReplyI would say figuring out the reason why a model works is much more important than finding some magical parameters to fit the data perfectly.
The hit rate doesn't look great, but the payoff has a nice positive asymmetry.
ReplyThe biggest story for financial markets thus far in 2016 (imho) is the ostensibly coordinated efforts by the world’s largest central banks to stop the USD from strengthening. And to be sure, I have been writing about this concept for well over two months now. Back on February 11th, in a commentary entitled “The Chinese monkey on our back”, I first postulated that the PBOC was in possession of a trump card against any FOMC attempts to materially raise rates. The basic concept centered on the idea that the August 2015 and January 2016 “mini” peg breaks in USDCNY were salient messages to everyone in the financial markets — if the dollar strengthened further, for any reason, then Chinese policymakers would unleash a tsunami of tightening in global financial conditions. Thankfully, Janet got the message. She wanted nothing to do with a 1998-style reaction to a full-scale break of the USDCNY peg heading into the elections — so she torqued aggressively in the direction of über dovishness. And it was her move to halt dollar strengthening which began the sharp rebound in commodities, HY credit, spoos, and EM assets over the last couple months.
Reply....
Looking ahead, the next piece of the puzzle rests in the hands of the Japanese. Will they also recognize the same futility in devaluation and thus play down any further lowering of nominal rates? Will they instead focus on credit easing by upping the purchases (and funding) of risky domestic assets? Or will they treat the risk of retaliatory Chinese devaluation in the same way they view the Diaoyu/Senkaku Island threats — with disdain? I would certainly argue that the one country which is most likely to break the currency war truce is Japan. But my best guess is that, at this stage, the Japanese, just like the Americans and the Europeans, will acquiesce. The US is pushing very hard on Japan to submit to currency peace, as evidenced by the comments highlighted in this recent article: http://www.wsj.com/articles/u-s-treasury-secretary-despite-yens-appreciation-currency-market-orderly-1460762708. And to be sure, the Japanese can certainly avoid some nasty geopolitical fallout while simultaneously achieving many of their longer-term goals by pivoting towards credit easing and away from traditional monetary easing. For now, peace makes sense in Japan!
So, if we assume that the ECB and BoJ remain in truce mode, what then breaks the détente? Or, asked another way, how long can this very fragile four-way currency peace agreement last? My best guess is that it stays in place through November 2016. Simply put, the FOMC does not want to see a CHEXIT trade prior to the election. It would generate a 1998-style tsunami of financial upheaval that would in turn directly threaten Fed independence in the lead up to this highly contentious presidential election. The fringe candidates on both sides have all been highly critical of existing and past Fed policies. And they would love nothing more than the excuse of market chaos to rein in Fed independence if elected.
With that said, we should always remember that while the Fed remains openly focused on its dual mandate, behind the scenes it works even more aggressively to preserve its hard-earned political independence. Freedom is truly their number one goal! Therefore, I would argue that the USD will stay weak and there will be no CHEXIT trade at least until November. After that, all bets are off. So enjoy the market frothiness for a couple more quarters. Political motivations related to the threat of CHEXIT will have Janet run the economy, spoos, and EM assets hot hot hot!!! Good luck trading.
I suspect it is related to the chart linked to here: http://oi63.tinypic.com/2dvit0x.jpg
ReplyRecessions used to happen more frequently in the past. Monetary policy has had the tendency to extend ups and downs (mainly ups) particularly since the war. A 50/100 ma crossover requires nice big moves.
That's about it I think.
@abee,
Replyvery insightful comment. I was thinking about Japan's option after I read that article. My conclusion is close to what you just said. But then the recent earthquake, though tragic, did give BOJ an excuse to take additional steps to further loose their policy.
Yellen can do all she wants to keep USD weak, but there is still something that could derail her plan: debt problem in China and EU, I do not think that those delinquent borrowers really care about Fed's independency. Though, it is quiet right now. I would bet that somewhere some credit event would occur that will force Fed's hand before November.
@abee ...not sure people are that underweight- ride cash position extremely low as is cash in mutual funds and by definition equity markets are "owned" i don't really buy the argument that ppl are underweight equities
Replyfor disclosure i am short and underwater by a couple of percent in spoos...and adding buy buying some puts which looks silly low in premium
I find it hard to believe that there was any backroom FX agreement. I am not sure they even know up from down anymore. Did they agree to have the BoJ & ECB cut rates further into negative territory to strengthen their currencies?
ReplyThe markets are currently doing the heavy lifting for the CBs. The ECB and BoJ are left with such unappealing tools that they will gladly do nothing if the market is going up and spreads are going down.
My overall view of Dame Janet and company is that we are going to see the USD jawboned up and down as THE major monetary tool of the FOMC. This is along the lines of the policy followed by Mark Carney and the BoE in the last few years. Both countries probably feel the need to have bursts of inflation generated by talking down USD or GBP at times (with the concomitant benefits for exporters), but then are constrained to keep the genie in the bottle by talking the currency back up again when commodity inflation threatens to become a problem for aggregate demand generated by domestic consumers.
ReplyWe have now shifted to sentiment extremes and some mis-pricing in the markets because Fed dovishness has now probably been priced in to an excessive degree. We now have the market pricing in a less than 100% chance of a June rate hike. Expect FOMC "forward guidance" (i.e. dot plots) to now shift to adopt a slightly more hawkish view, along with changes in the language to reflect future policy adjustments. In addition, the ball is really in the ECB's court now, as those economies continue to struggle, and they are likely to move next, sooner than the BoJ in my opinion. As MM has pointed out many times, it's not that the US is in a recession, it isn't, it's just that growth remains quite slow, although critically it is faster than in Japan or Europe (and perhaps in China?). Extreme dollar bearishness as currently manifested seems inappropriate, and the panic buying in commodities and EMs will, as always, end badly for the most recently arrived tourists. We continue to sell.
MM - what is the return period you use when examining 50/100w MA crossover returns? Tx
ReplyThese swings in sentiment and positioning in such a short period of time are nothing less than fascinating. Two months ago the world was falling apart and today commentaries are pouring down on how we could see upside risks to growth in US, massive double bottom forming in SPX with projected target of 2400, etc etc.
ReplyThe truth, as most of the times, is probably in the middle: US data are generally poor, European ones nothing to cheer about and overall global growth is far, very far from being convincing. As such, we feel comfortable in using current strength to further reduce equity exposure to 75% of our benchmarks.
What I find more interesting is the price action in rates: I wouldn't exclude a move similar to the one we had last year in May and June. Bund is looking sick and BTPs even more.
This analysis is a bit fluffy, as it doesn't really add to either side of whether the strategy works. MA crossover strategies tend to have below 50% hit rates, since they tend to suck when the prices are range-bound, while all of the returns are in the strong trends. I.e., the return distribution is positively skewed, the median would be probably less than 0 (as you've noted) but the important part is the mean of the returns. Plus, as you've said yourself, you'd need to add stuff on top of this to really make the strategy work.
ReplyMarkets can remain irrationally bullish longer than you can remain solvent on your open short positions.
Reply@ Anon 9.24: The information ratio of this strategy is 0.09 since 1929, .33
Replysince 1980, and 0.15 since 2000 on a pure price basis (ie no dividends included). The IR's for buy and hold over he same periods are .29, 0.49, and .11, respectively, with at least a little more vig from divvys when looked at on a total return basis.
Left - agree with your comments on the dollar for the most part - Abee's note, however make some good points about the 'arrangement' to weaken the dollar. Regarding that arrangement, Draghi weaseled out by moving focus to corporate bond purchases, and the scheme may have earned Zhou a reprieve from the firing squad as the glorious rebalancing unfolds in China, but obvious questions arise about exactly why Kuroda san would quietly agree to being the gimp with a ball in his mouth in the ensuing game.
ReplyThe interesting thing to me is that WTI is $40, which is $20 below the last time we were testing the highs in spoos, with the deferred strips i.e. cal 21-25 a lot weaker (they haven't really participated in the rally from 26 to 41). Energy equities are only 6% or so below the levels they were when WTI was 55-60, which is pretty amazing outperformance, but thats what short squeezes can do.
Furthermore, the dollar is still quite high - we are barely approaching the levels (ostensibly support) when people were running around slitting their wrists and comparing the dollar strength to godzilla. The moving average is still rising.
So its all about bucky - if 93-94 holds we are still in MM's rangebound regime - if we see a 80 handle, say hello to washed-up the new EM fan (EM consumer cyclicals, if nothing else).
washed, MM there are a lot of things that are different from the last time we were testing the highs in spoos and even more so from the first time it topped at such level 12 months ago
Reply- biotech bubble burst (best friend's own osteoroposis company lost 70% of its market cap whereas its business kept growing. ahem)
- Japanese shares are down 20% no matter what the CB cult people seem to believe in
- European shares are down 20 % " " " " " " " " " "
- Greek banks went to zero. They really did
- Italian banks got decimated
- oil collapsed
- and we are currently seeing first corporate casualies of oil/energy collapse
i am sure there are plenty more facts but it's late
LB is right that spoos ain't the best market to assess health of US equities and are a waste of focus. Spoos are rigged and are a propaganda machine for jbfders and are held afloat by the horrid wealth extraction machine that corporate buy back represents and that will be studied years from now as the most short sighted, lame and border line criminal management in US corporate history really i mean, keep on borrowing at zero-ish rate to buy your own toppish shares and see what your desfigured financial balance sheet becomes whenever rates shoot up. It is not if but when and personally i see this moment as historical i.e. as good as May 2008 for a short
so in other words hang in there MM do not let a stop run over your 'kid with the ruler' line take your own stop you know MUCH better than that. If you are sized accordingly, switch off the platform and take a walk until mid summer
reminder: i am not a perma bear. I took the biggest long position of my life late January which caused me many nervous nights ( You never buy the low tick) but paid handsomely. Now i am slightly underwater on my stoxx short (you never short the top tick) but increased position another 30%.. It is all about resolve and keeping away from all the noise. The same asses who called for an immediate trip to 1700 in February are now calling for 2400. This is the same old shit over and over and this is why we make money.
Washed - Rangebound is good. re energy eqs only 6% below 55.60 WTI equiv. You should see some of the toxic waste in my book. Languishing 75% below the level it was when WTI was 60.
ReplyMM_ nice spot on long term mov avs but other than trying to pick up when the algo monkeys may flip I am not the greatest fan on battledeathstarcrosses as like hindenberg disaster signals they tend to go up in flames. But yours look impressive.
What now then folks? I think AL above puts it nicely. But for now.. never underestimate the power of retail to chase a trend. They just love following charts that go low on left to high on right. But I can't get too excited about usd falling much further. As LB says the pendulum of fed expectation is probably at a zenith on the dove side of the cuckoo clock. I mean we are REALLY selling usd on it being the most likely to hike rates?
I have stuck on two new trades - Short oil today and short Cable. GBP is cocky as hell into Brexit and as I m thinking USD rallies again then Cable kills two birds with one stone. Though I gather Ivanpah has recalibrate that saying to "kill 3500 birds with 173,500 mirrors"
I think that bonds need to go down first, before shorts on spoo making any money. I also think that BOJ will surprise with some new qe with the earthquake as cover at the next meeting. It is likely that QQQ might catch up with Dow and Spoo to previous high before any correction happens.
Replyjust my 2 cents
Pol - I really should get into the habit of being more specific - I was referring to XLE as being down 6%, which obviously has a bit of a higher quality bias - I am aware that some small cap energy names are at this point unretrievable but to the most ardent plumber.
ReplyNico - yes I think we are on the same page on fundamentals last year vs now - but one struggle I have is that this market (us equities specifically) is unlike any I've ever seen , and I've seen a few just like you - when was the last time we kept threatening to take out old highs for almost two years? in 2000 after the march top we were basically in a clean downtrend within a year - after oct 2007 we were there even quicker.
As for crude, everyone should do themselves a favor and focus on the signal (deferred cals) and not the noise (prompt month contract). You would think something like that was obvious, but apparently not.
What is deferred cals?
ReplySorry for the dumb question.
"As LB says the pendulum of fed expectation is probably at a zenith on the dove side of the cuckoo clock. I mean we are REALLY selling usd on it being the most likely to hike rates?"
ReplyYep, this the key I think. We have moved from a deflation panic, to a very dovish reflation story, and there is noting more loved by risk-assets, JBTFDers, etc than a goldilocks story. I just wonder then whether a higher oil price is "good" for equities, and whether in fact the whole thing couldn't tilt soon. Bonds look horrible imho, at least on a three-to-six month view.
Not that interested in Spoos, but I admit that I did short a single name turd this week, I had been looking to get into. The thing is, if Europe/EM continue to play catch-up, it could have real legs.