Wednesday, November 2, 2011

Don't be too eager to get bearish

While the stock selloff in the last two days has been breathtaking, (just as the rally last week was breathtaking), even if you are bearish, I wouldn't be too eager to commit to a bearish trade here. There are just too many bullish triggers over the next few days that could rip the face off anyone positioned to the short side.

First of all, the market just kissed the 50% retracement support level as shown by the chart below.

Another short-term bullish data point came from Marty Chenard at He showed that, as of Monday night, institutional investors haven't panicked and the positive momentum seen last week appears to be intact.

The Greek referendum a domestic power play?
The news of the Greek referendum called by prime minister Papandreou caught investors by surprise yesterday and the markets sold off. Upon closer examination, the referendum story just didn't make sense. He caught his own cabinet by surprise with the news and even his own finance minister wasn't briefed on the plan. Joseph Cotterill of FT Alphaville wrote that it wasn't clear that Papandreou may not have had the votes to pass the referendum bill in parliament. Moreover, the Greek constitution specifically prohibits referendums on fiscal matters. So what would the referendum question be?

If the question were to be phrased in the form of, "Are you in favor of knuckling under to the EU and the IMF?" The answer would be an overwhelming "No". On the other hand, if the choice was to be accepting the austerity package as a price for staying in the eurozone, or to leave the eurozone and be ejected from the EU, then the outcome is much hard to predict.

Beware the Bernanke Put
I also wrote that bears should be careful about the possibility of central bank intervention (see Defying gravity and  When will bad news be good news?). We have the FOMC decision today and press conference afterwards. Consider, for example, this analysis of how far the Fed has strayed from its dual mandate and tell me that there's no Fed intervention risk.

What about the Draghi Put?
Not much is know about the views of Mario Draghi, but there are some insights to be had in a speech he gave in July 2011. First, he gives lip service to the idea that EU states must stand on their own [emphasis added]:
For years interest rates in the various parts of the euro area did not diverge significantly from those obtaining in Germany. For a long time the spreads between sovereign securities and German Bunds remained narrow and the interest rates charged by banks reflected the credibility of the public securities of the euro-area countries. This is no longer the case: the solvency of sovereign states has ceased to be a foregone conclusion but something that has to be won in the field with rapid and sustainable growth, which is only possible with sound public finances. Interest rates reflect today’s new situation: they are higher for countries with low growth and weaker public finances. The cloak of credibility provided by the stronger euro-area countries has been lifted; we must grow without relying on its shelter. The structural reforms invoked for years are now even more crucial.
In the next breath, Draghi goes on to talk about "innovative" monetary policy and "more appropriate set of economic governance tools", which is a signal that he may be more pragmatic than his predecessors in their approach to central banking:
On several occasions I have noted that Europe reacted to the global financial crisis by drawing on the credibility of the ECB and the latter’s timely and innovative conduct of monetary policy and by equipping itself with a more appropriate set of economic governance tools. We now have a system of autonomous authorities for banking and financial supervision, a European body to monitor and mitigate systemic risks, and new procedures for the coordination of fiscal and structural policies.

On last Wednesday, just as the eurozone summit was about to convene, Draghi "independently" released a statement that he supported the continuation of the ECB program of buying sovereign debt. That program was supposed to be discontinued when the EFSF came into being. It sounded just a little bit too orchestrated to me. To understand the significance of this statement, Brad Delong sounded off on the ECB's refusal to be the lender of last resort to the eurozone:
When the European Central Bank announced its program of government-bond purchases, it let financial markets know that it thoroughly disliked the idea, was not fully committed to it, and would reverse the policy as soon as it could. Indeed, the ECB proclaimed its belief that the stabilization of government-bond prices brought about by such purchases would be only temporary.

It is difficult to think of a more self-defeating way to implement a bond-purchase program. By making it clear from the outset that it did not trust its own policy, the ECB practically guaranteed its failure. If it so evidently lacked confidence in the very bonds that it was buying, why should investors feel any differently?

The ECB continues to believe that financial stability is not part of its core business. As its outgoing president, Jean-Claude Trichet, put it, the ECB has “only one needle on [its] compass, and that is inflation.” The ECB’s refusal to be a lender of last resort forced the creation of a surrogate institution, the European Financial Stability Mechanism.
Did Draghi just signal that a Draghi ECB is ready to embrace its responsibility as lender of last resort and to move off the one needle on its compass? Then take a look at Felix Salmon's account of what happened at MF Global, which was essentially a leveraged credit bet gone wrong. The story of MF Global is a cautionary tale of how quickly a financial institution can go south should it lose its liquidity funding. Is the ECB watching this is this scaring them?

What's more, did anyone catch the odd language at last G20 communique?
We remain committed to take all necessary actions to preserve the stability of banking systems and financial markets. We will ensure that banks are adequately capitalized and have sufficient access to funding to deal with current risks. Central banks have recently taken decisive actions to defend, and will continue to stand ready to provide liquidity to, banks as required. Monetary policies will maintain price stability and continue to support economic recovery.
When did the ECB's mandate include supporting economic growth and recovery? Or was the G20 referring to other central banks?

The Red Knight to the rescue?
Moreover, there have been hints of Chinese intervention. In the wake of the disappointing Chinese PMI release, Global Macro Monitor asked:
Interesting official PMI was less than the HSBC PMI, which was also released today. Are they paving the way data for an easing of monetary policy or to justify contributing to the Eurozone bailout? Just askin’.
I wrote before that Chinese appear to be signaling a policy of selective stimulus, these "hints" may be part of that campaign.

Don't get bearish too soon
In conclusion, I know that the headlines and recent price action look dire, but I would be cautious about getting bearish too early. The technical backdrop is improving for the bulls and as we face two back-to-back event risk days where central banks may signal imminent intervention.

Even if you are a bear, wait for a rally before putting on short positions. Sell into strength, not weakness.

Even if you are a bear and believe that the Fed, ECB or PBoC can't save the world, they can still rip your face off with a trillion or two of quantitative easing.

Cam Hui is a portfolio manager at Qwest Investment Fund Management Ltd. ("Qwest"). This article is prepared by Mr. Hui as an outside business activity. As such, Qwest does not review or approve materials presented herein. The opinions and any recommendations expressed in this blog are those of the author and do not reflect the opinions or recommendations of Qwest.

None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this article constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or Mr. Hui may hold or control long or short positions in the securities or instruments mentioned.


fabian hug said...

You give wise advice and even if I can't stand the actions of these guys, we've to face the fact that they conduct the orchestra. Going against them is forgetting that money talks.

Mitch said...

From our analysis at

Frontier Strategy Group sees a greater than 50% chance that Greece will leave the Euro. Companies have two months to put contingency plans in place for Greece. Companies choosing to remain in Greece will need to develop strategies to finance suppliers and distributors as credit from Greek banks will dry up. Opportunistic companies are considering using Greece as an export hub, as leaving the EU would likely devalue the local currency by 50%, making Greece an attractive long-term play from a cost point of view.

While many emerging markets will be impacted by the crisis, leading companies have already identified winners and are prioritizing resource allocations for those markets. India, Indonesia and Africa are set to be the biggest winners as domestic demand is driving robust growth in those markets.

Hypnosis Hypnotherapy Los Angeles said...

No matter how you prop it up or buttress it, the tottering tower of debt, both in the US and Europe will continue to totter. The future was mortgaged by creating money ahead of creating wealth,via debt, and now the chickens are coming home to roost. Despite bullish factors, any major deterioration, (a matter of when not if), in the European situation, or the Chinese for that matter, could trigger a massive selloff.

hypnosis hypnotherapy Los Angeles

Tiho said...

Fabian Hug said:

"You give wise advice..."

If I can recall right, this blog was ultra bearish in early September towards early October. As a matter of fact, the author was so bearish, he expected VIX to spike to 80 or 90 like in 2008.

That expectation came just before we bottomed. I made a series of posts letting the author know he was too bearish and we were about to rally proving his call wrong, even if it turns out to be just a dead cat bounce towards 1250.

Now, the blogs opinion has capitulated in its view towards 2% yield on 30Yr Bond, retest of March 09 lows on the S&P, VIX spiking to 80 and a Commodities crash.

All of a sudden, the author has become bullish. So bullish intact, that he recommends having no short exposure!

I am not 100% sure if we are in a start of a new cyclical bear market, or in a continuation of a cyclical bull that started in March 2009 - I think no one is 100% sure of anything in markets. However, I am sure of one thing:

There are so many bullish sentiment indicators that are screaming warning signals right now and yet the blog is now recommending no short positions. Maybe these warning signals are not going to come to fruition and are just advising caution for the time being. Maybe they will, and this will prove to be a bear market rally that lasted only towards 200 MA.

Nevertheless, this is the worst time to be bullish and the author goes as far as saying that its not a wise time to be bearish and advises to have no short positions here. How is this wise? This is terrible advice not just for traders, but for longer term investors who want to be hedge here if they already bought at the bottom.

Shouldn't one be buying low? Shouldn't a financial advisor be recommending one to buy low as well?

That is not wise.

I rather side with Corporate Insiders, who were buying like crazy during 09th of August at 1,100 and got it right, contrary to the opinion of this blog. They are now selling heavily for only the third time this year (first two being Feb and May 2011 - both tops), contrary to this blog.

My post has less to do with fundamental reasons, and more to do with markets. Markets do not follow economy all the time, but it is amazing how well of a job they did switching bears into bulls in less than three weeks. I was personally lucky to be able to call the bottom right on the day on my blog (post: here), but it is also thanks to blogs like these which gives us a perfect sense of consensus thinking!

Daniel said...

Cam Hui, thank you as always for the wealth of information and sharing that you bestow on us, your readers.

I have a stern comment for reader and commenter Tiho, whose work I have read with great respect elsewhere, on his own site, and as a guest commenter on other blogs.

Tiho, please keep in mind that you are in Mr. Hui’s house, venting in his forum, and that your demeanor is not that of a respectful guest.

On the morning of October 5th, well before US market open, you (Tiho) wrote the following:

“I think we are setting up a great buying opportunity right now between 1010 to 1040 on the S&P as the majority of what I said above {ie excessively bearish and fearful comments by others, which you recapped} has already been discounted!”

If your prescient words are taken broadly, it was an excellent cautionary alert to Bulls not to join the general despair of the moment. If taken as specific investment advice, the dust is still thickening on the limit orders placed at that specific level.

If someone only took that one exact comment, made on October 5, you are a complete laughingstock. Ha Ha. To be so right, and to be so greedy as to demand a lower price of a market that you yourself said was poised to take off like a rocket, and be left behind.

Do you see how unfair of me it would be to say that? I won't press the point. But throwing up comments by Mr. Hui from September is in a similar vein.

Public market prognosticators have to be like cornerbacks in American football or goaltenders in ice hockey-- mentally sturdy, and possessed of a blessedly short memory. New patterns are coming all the time. Past is past.

At every point Mr. Hui has shared with us all the charts, commentary, etc. which have influenced him. We are all adults capable of drawing our own conclusions from them. And the most adult thing that can be said about the investment universe is the old maxim, “It’s OK to be wrong about the Market. Just don't be wrong for too long.”

In theology and ethics it is very wrong to flipflop or be inconsistent. In investment it is necessary for survival, and is called flexibility.

I think that you are banging a drum for your own website in another man’s living room. That is all I am saying. Otherwise, congratulations on being very right directionally as to the recent market movements.