Month: January 2019

Authored by Andrew Sheets head of cross-asset strategy at Morgan Stanley

2018 caused all manner of pain, continuing to bite and scratch and claw until almost the last day of the year. Nothing worked, nearly every asset lost money, and in a final, fitting flourish, the best day to buy was also the hardest (December 24). So long, 2018, you won’t be missed!

So the start to this year has been a great relief. Stocks have rallied, spreads are tighter and the VIX has fallen nearly 10 points. Already one hears an active debate over whether, after such a terrible 2018, the worst is now over and it’s time to press sustainably higher. I’m sceptical, largely because many of last year’s problems remain to be addressed. But that doesn’t mean things need to head south tomorrow, and some trends we’ve seen recently should be here to stay.

Thinking about how long this better tone can last has to start with what’s behind it. Valuations cheapened materially into late December, with US high yield spreads widening to our 2019 base case, the S&P 500 falling to our 2019 bear case and global equities trading below 13x forward earnings. Sentiment, meanwhile, turned quite cautious, with measures like hedge fund net exposure, retail investor sentiment and the slope of the VIX curve moving down near to post-crisis lows.

If valuation and sentiment were the tinder for the rebound, the Fed was the match. After nearly going out of its way in December to suggest policy should stay the course, the Fed’s tone has softened notably to start the year (first with Chair Powell’s remarks on January 4 and later in the FOMC minutes). Equity and credit markets cheered, recouping all their losses since mid-December. But rates markets yawned. On December 31, rates were pricing no Fed hikes over the next two years. Today, after the Fed’s big ‘change of tone’, expectations are almost exactly the same.

And there’s the rub. If we’re counting on the Fed to make the market happy and spark a sustainable rally, we need to answer three questions:

1. Can the Fed stick to that dovish message, given incoming data?
2. Can it exceed (or even meet) market expectations?
3. Will the Fed also adjust its balance sheet run-off, which may matter just as much (or more)?

It’s a challenging combination.

• First, while US growth is slowing, we think it remains above potential. 4Q18 GDP likely finished around 3.6%, December payrolls were over 300k, core CPI is 2.2% and the better tone is once again easing financial conditions. The Fed can certainly change its hiking path, but this might create some near-term discomfort.
• Second, with the markets priced for no hikes in 2019 (and cuts in 2020), any Fed action will amount to a surprise.
• And third, so far the more dovish message has been more vague on balance sheet policy, a notable omission.

Of course, the data could weaken faster than we expect in 1Q, giving the Fed more leeway. But this carries its own (very obvious) problems, and we think investors are often too quick to forget that, prior to 2010, weaker data and easier policy were a poor backdrop for risk (not a supportive one). In view of this and other fundamental challenges, we think it’s too early to position for a larger, more sustained rally in equities or credit, especially as many markets have already bounced quite meaningfully over the last three weeks. A more meaningful change from the Fed on its balance sheet, or China on its fiscal impulse, would lead us to revisit this view.

Instead, we’d focus on a number of key shifts occurring beneath the recent volatility. In 2019, we think the US dollar will weaken, rest-of-the-world equities and emerging markets credit will outperform their US counterparts and value will beat growth. All are generally considered ‘higher beta’ strategies that should have underperformed as markets weakened in December. They didn’t, and since then have held on to that performance as markets recovered. We think this speaks to the powerful support from fundamentals and valuations behind these themes, all of which we like owning today, as well as over the full year.

A final word on the Fed before we go. Our rates strategists note a material disconnect between front-end pricing (no hikes) and the level of 10-year real rates (near seven-year highs). If one of these is right, the other seems hard to justify, and our strategists see opportunities in playing a convergence of this disconnect.

2019 is off to a good start, and that’s certainly welcome. But there’s still a lot of year left. 2018 started with a pretty cheerful tone too.

via RSS http://bit.ly/2Coh7EO Tyler Durden

Authored by Eric Peters via EricPetersAutos.com,

Trump gets flak for characterizing the mainstream press as purveyors of Fake News. But what about no news at all?

Isn’t lack of coverage even worse than biased coverage?

Well, how much news have you heard or read about the gilets jaunes – or “yellow vest” – protests in France?

CNN hasn’t got anything on its main page today (Jan. 9). Neither did NBC or CBS. Lots of the usual – endless – carpet-chewing coverage of Trump, though. And also of such important stories as “Want to Pay off Your Mortgage? Try Frugal Minimalism.”

You might think France, a major western European country, coming unglued – and on the verge of its government outright banning “unauthorized” criticism of its actions – might at least be  . . .  well,  news.

Instead, nothing.

Which is very interesting, given what the yellow vests are protesting. This being chiefly the purposely punitive taxes on fuel – diesel especially – imposed by the French President, Emmanuel Macron. In the name of “climate change” – but really in the name of squeezing average Frenchmen (and women) out of their cars. These taxes – already extortionate and brutally regressive – were on track to increase the cost of a gallon of fuel to more than $7.

This brought the French not to their knees – but to the streets. The yellow vests – which are reflective jackets every French motorist is required by law to keep in their vehicle, to be worn in the event of an emergency – were donned for a different kind of emergency.

And Macron buckled. The tax hike has been rescinded. But did you read about it?

Probably not – unless you went out of your way to look for it. Mainstream press coverage of this effective protest has been as scanty as its coverage of the reason for the yellow vest protests – which by the way continue, notwithstanding Macron’s retreat.

The reason being that Macron has not retreated in principle from resurrecting the tax, once the protests are well in hand. He hasn’t abandoned the “climate change” excuse for the tax; indeed, he is as adamant as ever that energy austerity be imposed. Well, on the French people.

Not on him and those in his class.

The yellow vests know this, which is why they haven’t gone home yet.

Macron made the great tactical mistake of pushing the people of France too hard, too soon.

And the American press doesn’t want you to know about it.

Nor – apparently – about the latest news out of France, which is that Macron’s government has floated the idea of a new law criminalizing “unauthorized” demonstrations of, well, anything the French government happens not to like its citizens protesting.

Macron’s Prime Minister, Eduouard Philippe, characterizes such citizens as “troublemakers” – a species of word very much of the same species as “climate change” in that both are conveniently vague as well as conveniently defined to be whatever the user wishes them to be.

Big snowstorm? Climate change!

Criticize the government? You are a troublemaker!

French citizens are already being arrested for less – merely for wearing a yellow vest. “Those who question our institutions will not have the last word,” Philippe declared. Mark that. It will be enough, in France, to question our institutions to be subject to arrest, prosecution and caging.

Which means, questioning the policies of the government – including those related to the “climate change” religion. Which brings us full circle to the absence of coverage of these events.

The government of this country is in the process of enacting similar laws, just not too soon and not as hard. We are on the slower-motion plan, and because of this far more strategicapproach to gradually getting the American cattle to accept the transition from being free range cattle to feedlot cattle, the American cattle are – unlike the French – generally oblivious.

Most Americans haven’t noticed, as a for-instance, that while gas prices haven’t gone up, the cost of the cars they put gas into has – and not because of new features they want but because of impositions made by the government. Examples include the sudden appearance of ASS in most new cars. Automatic Stop/Start – a system which turns off the engine whenever the car isn’t moving, in order to fractionally increase individual car mileage for the sake of increasing so-called “corporate” (or fleet) averages, which is necessary because of government fuel efficiency fatwas – which end up being just the same as a tax except on the car, not the fuel.

Because either way, you still pay.

This is subtler, and so smarter – from the standpoint of the people holding the proverbial cattle prod.

The fuel economy fatwas are also forcing mass-production of electric cars, which cars cost tens of thousands of dollars more than otherwise comparable non-electric cars. This amounts to an even more extortionate and regressive tax on mobility – which is pure genius, relative to Macron’s hamfisted (because obvious) direct tax on motor fuels.

But you didn’t read about that here.

via RSS http://bit.ly/2H7Uz0R Tyler Durden

After months of wrangling with the EU over the details of the Irish backstop, followed by a delayed Commons vote as May wrangled with intransigent Brexiteers wary (hysterically so, some would argue) of becoming “trapped” in the customs union, Theresa May’s supremely unpopular Brexit deal is finally expected to be called for a vote on Tuesday – that is, barring another last-minute delay.

According to the latest round of estimates from the British Press and Wall Street analysts, May’s deal is expected to go down hard – possibly by more than 200 votes.

But as anybody who has been following the increasingly tedious negotiations should understand, this is part of May’s plan. Or at least it was until very recently.

Despite numerous reports about rumored “Plan Bs” or hints that No. 10 might be considering a delay of Article 50 or even a second referendum, since the withdrawal agreement and its accompanying political statement were finalized by the EU, the only plan remotely resembling a cohesive strategy that has emerged would be to continue calling the deal up for successive votes until the EU offers more concessions or May runs out the clock until Brexit Day, effectively forcing MPs to chose between her deal and a ‘no deal’ Brexit (which May and her government have hysterically warned would be an unmitigated disaster).

But any flexibility May might have had to pursue this strategy disappeared last week as rebellious Tory MPs joined with Labour and the DUP to pass a series of amendments to wrest control of the Brexit process from May. One amendment passed by the Commons makes it so that a ‘no deal’ exit would require Parliament’s explicit approval. Otherwise, Brexit Day would be delayed.

Another requires May to return to the table with a ‘Plan B’ deal – what May has interpreted as an ever-so-slightly modified version of her deal – within three days of the agreement being finalized.

With her hands now tied, another threat has emerged over the weekend. After waffling on the issue last week, it appears Labour Leader Jeremy Corbyn is intimating once again that he could table a no confidence motion in the prime minister’s government if her deal is defeated on Tuesday. Though many believed May would be safe for at least a year after she survived a Tory no-confidence vote, the prospect that the DUP and even a few Tory rebels could join with Labour to topple May’s government is surely provoking anxiety as the removal of May as prime minister would clear the way for a general election and inject even more chaos into the already turbulent Brexit process.

The Observer reported Sunday that Labour MPs have been told to prepare for a no-confidence vote as early as Tuesday evening in an attempt to force a general election.

Messages have been sent to Labour MPs, even those who are unwell, to ensure their presence both for the “meaningful vote” on the prime minister’s Brexit blueprint on Tuesday and the following day. Labour whips have told MPs the no-confidence vote is likely to be tabled within hours of a government loss, with the actual vote taking place on Wednesday.

Messages have been sent to Labour MPs, even those who are unwell, to ensure their presence both for the “meaningful vote” on the prime minister’s Brexit blueprint on Tuesday and the following day. Labour whips have told MPs the no-confidence vote is likely to be tabled within hours of a government loss, with the actual vote taking place on Wednesday.

The news comes before what promises to be one of the most tumultuous 24 hours in recent parliamentary history in which, barring another delay, May will put her Brexit deal to parliament despite deep and widespread opposition across the Commons, including from many MPs inside her own party.

A senior shadow cabinet member said: “There is now recognition that we cannot wait any longer. If May goes down to defeat and she does not resign and call an election, this is the moment we have to act.”

Assuming May survives the motion, it’s expected that May will call a series of “indicative votes” to determine what alternatives to her plan would be more palatable to MPs. One option reportedly gaining momentum would be permanent membership in the customs union for the entire UK.

May, meanwhile, has offered a “package” of reforms – including concessions on workers-rights and seeking more assurances from the EU that would give Parliament more power over whether to enter or exit the backstop.

All the while, May has continued with “Project Fear”, warning on Saturday of “catastrophe” if MPs don’t back her Brexit deal. Writing in the Sunday Express, the prime minister warned that allowing a ‘no deal’ exit would be an “unforgivable” breach of trust (despite the fact that it’s now far more likely that Brexit Day will be delayed, with the Guardian reporting Sunday that the EU has begun preparations for Brexit to be delayed until at least July).

A quick glance at the public opinion polls would suggest that the British people now regret their choice after being subjected to months of chaotic headlines and seemingly interminable partisan bickering.

Which would suggest that a new plan is gradually taking shape: keep delaying and delaying Brexit Day until people forget all about the referendum and move on with their lives.

via RSS http://bit.ly/2CfUC50 Tyler Durden

Authored by Mike Shedlock via MishTalk,

Hackers broke into the US electric grid with spearphishing techniques targeting contractors with system access.

The Wall Street Journal has a detailed report out regarding a sophisticated, and successful attack by hackers into the US electric grid. The hackers could have temporarily shut off power.

The Journal claims Russia is responsible. I hate such assumptions. In the absence of hard proof, the hack could have come from China, North Korea, Israel, or even the US. Even if Russian hackers did this, there is a difference between “Russian” and “Russia”.

Please consider America’s Electric Grid Has a Vulnerable Back Door—and Russia Walked Through It.

Early victims

In the summer of 2016, U.S. intelligence officials saw signs of a campaign to hack American utilities, says Jeanette Manfra, assistant secretary of Homeland Security’s cybersecurity and communications program. The tools and tactics suggested the perpetrators were Russian. Intelligence agencies notified Homeland Security, Ms. Manfra says.

Mr. Vitello of All-Ways Excavating has no idea how the hackers got into his email account. He doesn’t recall reading CFE’s websites or clicking on tainted email attachments. Nonetheless, the intrusion was part of the Russian campaign, according to the security companies that studied the hack.

On March 2, 2017, the attackers used Mr. Vitello’s account to send the mass email to customers, which was intended to herd recipients to a website secretly taken over by the hackers.

Once Mr. Vitello realized his email had been hijacked, he tried to warn his contacts not to open any email attachments from him. The hackers blocked the message.

Sneak Attack

​

Hackers sent bogus emails from the account of Oregon construction contractor Mike Vitello to herd recipients to a website they had secretly taken over, called imageliners.com. Hackers then used the site to seek access to contractors that do business with U.S. power utilities.

All-Ways Excavating is a government contractor and bids for jobs with agencies including the U.S. Army Corps of Engineers, which operates dozens of federally owned hydroelectric facilities.

One [email] went to Dan Kauffman Excavating Inc., in Lincoln City, Ore., with the subject line: “Please DocuSign Signed Agreement—Funding Project.”

Office manager Corinna Sawyer thought the wording was strange and emailed Mr. Vitello: “Just received this from your email, I assume you have been hacked.”

Back came a response from the intruders who controlled Mr. Vitello’s account: “I did send it.”

Ms. Sawyer, still suspicious, called Mr. Vitello, who told her the email, like the earlier one, was fake.

Federal officials say the attackers looked for ways to bridge the divide between the utilities’ corporate networks, which are connected to the internet, and their critical-control networks, which are walled off from the web for security purposes.

The bridges sometimes come in the form of “jump boxes,” computers that give technicians a way to move between the two systems. If not well defended, these junctions could allow operatives to tunnel under the moat and pop up inside the castle walls.

In briefings to utilities last summer, Jonathan Homer, industrial-control systems cybersecurity chief for Homeland Security, said the Russians had penetrated the control-system area of utilities through poorly protected jump boxes. The attackers had “legitimate access, the same as a technician,” he said in one briefing, and were positioned to take actions that could have temporarily knocked out power.

Attack Still Ongoing

The hack started in 2016 and is still ongoing. The Journal cited many other contractors who were hacked the same way as Vitello. Here’s a recent hack.

Vello Koiv, president of VAK Construction Engineering Services in Beaverton, Ore., which does subcontracting for the Army Corps, PacifiCorp, Bonneville and Avista Corp. , a utility in Spokane, Wash., says someone at his company took the bait from one of the tainted emails, but his computer technicians caught the problem, so “it was never a full-blown event.” Avista says it doesn’t comment on cyberattacks.

Mr. Koiv says he continued to get tainted emails in 2018. “Whether they’re Russian or not, I don’t know. But someone is still trying to infiltrate our server.”

Last fall, All-Ways Excavating was again hacked.

Battlefield Prepared

Industry experts say Russian government hackers likely remain inside some systems, undetected and awaiting further orders.

“What Russia has done is prepare the battlefield without pulling the trigger,” says Robert P. Silvers, former assistant secretary for cyber policy at Homeland Security and now a law partner at Paul Hastings LLP.

Assumptions

Once again, we have assumptions that “Russia is Responsible”.

The excuse: “The tools and tactics suggested the perpetrators were Russian.”

It’s a bit of a leap to go from that assumption to the WSJ headline.

Scary Bottom Line

Assumptions aside, someone was able to hack into companies responsible for the US electric grid, gaining technical abilities to shut it down.

via RSS http://bit.ly/2VNlMsR Tyler Durden

The partial government shutdown, now in its 23rd day, is officially the longest in modern US history as the impasse over funding for Trump’s southern border wall continues. 

With Congress out of town for the weekend while sits in Washington, tweeting: “I’m in the White House, waiting. The Democrats are everywhere but Washington as people await their pay. They are having fun and not even talking!” 

I’m in the White House, waiting. The Democrats are everywhere but Washington as people await their pay. They are having fun and not even talking!

— Donald J. Trump (@realDonaldTrump) January 13, 2019

Well, they’re not all “not even talking” – as evidenced by Sen. Bob Menendez (D-NJ) hanging out in Puerto Rico along with more than two dozen Democrats from the Hispanic Caucus. Menendez was spotted talking to a bikini-clad woman.

Spotted: Sen. Bob Menendez on the beach at a resort in Puerto Rico on Day 22 of the partial government shutdown. Reports say dozens of Dems are in PR for the CHC BOLD PAC winter retreat — including meetings on Maria cleanup, and a party with PR’s “Hamilton” cast. pic.twitter.com/6FaBYKPo4L

— David McAlpine (@DavidMcAlpine) January 12, 2019

President Trump says he won’t sign any spending package that does not include $5.7 billion for his wall – leaving nine of 15 major federal agencies without congressional funding since Dec. 22, according to the Wall Street Journal. 

“I do have a plan on the Shutdown,” Trump tweeted on Saturday. “But to understand that plan you would have to understand the fact that I won the election, and I promised safety and security for the American people. Part of that promise was a Wall at the Southern Border. Elections have consequences!”

….I do have a plan on the Shutdown. But to understand that plan you would have to understand the fact that I won the election, and I promised safety and security for the American people. Part of that promise was a Wall at the Southern Border. Elections have consequences!

— Donald J. Trump (@realDonaldTrump) January 12, 2019

Without a clear solution, Trump could make good on his recent threats to declare a national emergency and divert funding from other departments to build a wall without congressional approval – a move which could pave the way for the shutdown to end, yet leaving the wall in the hands of the courts. 

And while wealthy Washington bureaucrats play chicken, hundreds of thousands of federal employees missed their first paychecks Friday, ratcheting up pressure to end the shutdown.

That said, there is enough temporary funding for millions of Americans to continue to receive food stamps through February, according to Agriculture Secretary Sonny Perdue – while the IRS will pay tax refunds despite the agency being subject to the shutdown. 

In one sign that lawmakers are feeling some pressure, the House on Friday passed a bill approving back pay for federal employees who missed their paychecks because of the shutdown.

The bill, which the Senate approved late Thursday, mandates that the roughly 420,000 essential employees now working without pay and the 380,000 furloughed workers be compensated as soon as the government reopens. Mr. Trump said Friday he would sign the bill.

If Mr. Trump declares a national emergency, officials may divert military construction funds to build the wall. Federal law allows the president to halt military construction projects and divert those funds for the emergency. –WSJ

“I don’t want him to do that,” said Rep. Roger Williams (R-TX) of the national emergency option. “I would hate to see that money moved around.” 

Another wall funding option panned by both parties is asking the US Army Corps of Engineers to explore diverting funds allocated in 2018 to projects providing disaster relief for Puerto Rico, Texas, California and Florida. 

“It’s going to piss off a lot of members,” said Rep. Mike Simpson (R-ID), who sits on the House Appropriations Committee. 

GOP Senators, meanwhile, are trying to come up with a solution that they hope will end the impasse. 

On Friday, Sens. Rob Portman (R., Ohio) and Jerry Moran (R., Kansas) introduced legislation that would establish a $25 billion trust fund for border security to pay for at least 700 miles of reinforced fencing, additional physical barriers and more technology.

The bill also would include protections for a group of undocumented immigrants brought illegally to the U.S. at a young age by their parents. Mr. Trump ended an Obama-era program, Deferred Action for Childhood Arrival, or DACA, shielding hundreds of thousands of the immigrants from deportation, but his action was rejected by an appeals court in November. The issue is expected to be reviewed by the Supreme Court. –WSJ

The bill from Portman and Moran would allow so-called Dreamers to renew their protected status every two years. Trump, meanwhile, wants to address DACA – the Obama-era law governing Dreamers, after the Supreme Court has weighed in. 

via RSS http://bit.ly/2M9QFDj Tyler Durden

Authored by Lance Roberts via RealInvestmentAdvice.com,

Bull Rallies & Market Tops

Last week, we discussed the fulfillment of our expectations for a bull rally. While the rally was attributed to the rather “dovish” stance taken by Jerome Powell and commentary from the White House on potential progress on resolving the “trade war” with China. The reality is it had little to do with those headlines but was simply a reversal of the previous “exhaustion extreme” of sellers during November and December. 

The rally, as we laid out two weeks ago, continues to work within the expected range back to 2650-2700. 

Importantly, the previous deep “oversold” condition which was supportive of the rally following Christmas Eve has now been fully reversed back into extreme “overbought” territory. While this doesn’t mean the current rally will immediately reverse, it does suggest that upside from current levels is likely limited. 

Nonetheless, the rally from the December lows has been impressive. However, I want to caution investors from extrapolating a deeply oversold bounce into something more than it is.

Beware The Headlines

“The stock market just got off to its best start in 13 years. The 7-session start to the year is the best for the Dow, S&P 500 and Nasdaq since 2006.” – Mark DeCambre via MarketWatch

While headlines like this will certainly get “clicks” and “likes,” it is important to keep things is perspective. Despite the rally over the last several sessions, the markets are still roughly 3% lower than where we started 2018, much less the 11% from previous all-time highs.

Importantly, there has been a tremendous amount of “technical damage” done to the market in recent months which will take some time to repair. Important trend lines have been broken, major sell-signals are in place, and major moving averages have crossed each other signaling downward pressure for stocks. 

While the chart is a bit noisy, just note the vertical red lines. There have only been a total of 6-periods in the last 25-years where all the criteria for a deeper correction have been met. While the 2011 and 2015 markets did NOT fall into more protracted corrections due to massive interventions by Central Banks, the current decline has no such support currently. 

So, while there are many headlines circulating the “interweb” currently suggesting the “Great Bear Market Of 2018”is officially over, I would caution you against getting overly bullish too quickly. 

Tops Are A Process

 As my friend and colleague Doug Kass wrote previously:

“Tops are a process and bottoms are an event, at least most of the time in the stock market. If you looked at an ice cream cone’s profile, the top is generally rounded and the bottom V-shaped. That is how tops and bottoms often look in the stock market, and I believe that the market is forming such a top now.”

He is correct.  

There have been several suggestions as of late that last years slide from October into December was simply a correction. Here is Mark Hulbert’s take:

“The stock market’s recent correction has been more abrupt than you’d expect if the market were in the early stages of a major decline.

I say that because one of the hallmarks of a major market top is that the bear market than ensues is relatively mild at the beginning, only building up a head of steam over several months. Corrections, in contrast, tend to be far sharper and more precipitous.”

However, I disagree.

I think Mark’s mistake is in simply looking at the plunge from the mid-year highs rather than the entire topping process which started in November of 2017. 

After a record breaking number of positive months in 2017 with extremely low volatility; 2018 was a year where volatility returned as prices consolidated in a very broad range. Notice there was important price support being built by the markets by repeatedly testing price levels over time before giving way. 

“So…is the bear market over OR is it just starting?”

The honest answer is “I don’t know.”

But, anything is certainly possible. 

However, a look back through history at previous “bear market beginnings” can certainly give us some things to consider.

1974 

After two previous bear market declines, as I discussed just recently with respect to “Secular Bear Markets,” the S&P 500 broke out to all-time highs convincing the “bulls” the worse was over. 

It wasn’t.

Over the next several months the markets continued in volatile trade,  retesting support several times before breaking down. 

But, at this point, it was still believed just to be a correction.

The change occurred when the market rallied, and failed, at the previously broken support line.

That “failure point” marked the beginning of the “1974 Bear Market.”

1999

After the “Long-Term Capital Management” and the “Asian Contagion,” the market regained its footing and began a rampant run to all-time highs in 1999. The bulls were clearly in charge, and despite concerns of “Y2K,” stocks continued to press new highs. 

While Jim Cramer was busy publishing his list of the “Top 10 Stocks For The Next Decade,” the market begin to struggle to make new highs as volatility rose.

The early decline from “all-time highs” was only considered a correction as the demand by the bulls to “buy the dip”rang out loudly. 

“I think you’ll see healthier and broader advances in the market. Now is the time for optimism,” said Bill Meehan, chief market analyst with Cantor Fitzgerald (4/14/2000)

It wasn’t.

In early 2001, the market broke the support line that had contained the market over the last 24-months. 

Not to worry, it was simply just part of the “correction process” and many commentators on CNBC at the time were suggesting it was a “buying opportunity.” 

It wasn’t. 

The market rallied back, and failed, at the previously broken support line. 

That point marked the end of the topping process and the beginning of the “Dot.com Crash.” 

2007

In 2006, the market was rallying as “real estate” was going wild across the country. Firms were hocking every type of exotic mortgage derivative they could find, leverage being laid on without concern, and pension funds were being pitched “high yield” opportunities. 

As the market broke out to new highs, there was little concern as there was “no recession in sight,” “subprime mortgages were contained,” and it was a “Goldilocks economy.”

Over the next year the market repeatedly hit new highs. Each new high was followed by a decline which tested broadening support giving the bulls repeated opportunities to call for “dip buying.” 

It was believed the year-long consolidation process was simply the “set up” for the continuation of the bull market. 

In early 2008, the running support line was broken as “Bear Stearns” failed sending off alarm bells to which few listened. The market rallied backed, and failed, at the previously broken support line. 

That point marked the end of the topping process and the real beginning of the “Financial Crisis.” 

By now, you should realize the similarities between all of these previous market tops and what is happening currently. However, it wasn’t just price movements that each of these previous bear markets had in common with the market today. 

Fundamental similarities existed also:

• Valuations were high

• Dividend yields were low

• Federal Reserve was hiking interest rates

• Economy was believed to be strong

• Earnings were expected to continue to grow

• Corporate balance sheets were believed to be strong

• Yield curve was flattening

• “There was no recession in sight.” 

The Big Test

 Over the next couple of weeks, the market is going to face the “test” that has defined the “bear markets” of the past.

With the markets already back to very overbought conditions, multiple moving averages just overhead, and previously broken support; the market is going to have its work cut out for it. 

However, if the bulls can regain control and push prices back above the November highs, then the “bear market correction of 2018” will officially be dead. 

But such is only one possibility out of many others which pose a far greater risk to capital currently. 

With the Fed continuing to extract liquidity, economic data slowing, and earnings likely to be weaker than expected, the current bounce is likely to be just that. 

As we have continuously repeated, if you didn’t like the November-December decline, it is simply a function that you have built up more uncontrolled risk in your portfolio than you previously realized. 

Use this rally to rebalance risk, sell losers and laggards, and add to fixed income and cash. 

Conclusion

We noted previously that we remain long many of our core holdings and in November and late December added positions in companies which had been discounted due to the market’s downdraft.

This past week, we did reduce our equity exposure by 6% to remove some positions which have not been performing as well as expected. 

The risk to the market remains high, but that doesn’t mean we can’t make money along the way.

Until the bullish trend is returned, we will continue to run our portfolios with a bit higher level of cash, fixed income, and tighter stops on our current long-equity exposure. 

We are excited about the opportunity to finally be able to add a “short book” to our portfolios for the first time since 2008. It is too early in the market transition process to implement such a strategy, but the opportunity is clearly forming. 

via RSS http://bit.ly/2FpPJdK Tyler Durden

This is either very good news – or very bad news – for bitcoin. After the pioneering crypto currency (and other popular digital tokens) crashed this past week (dashing hopes of a near-term recovery after bitcoin retook $4k), Bloomberg reported a portentious development in crypto that could mean the market is in for a wave of selling – or buying – as dozens of bitcoin ur-wallets have sprung to life in recent weeks.

According to data provided by Flipside Crypto, the number of inactive accounts has plunged…

While the number of accounts trading, transferring, buying or selling coins spiked late last year.

The owners of some of bitcoin’s oldest accounts – many of which have long been dormant – have shown signs of life starting in October. The actively-traded supply of bitcoins has risen 40% since last summer, according Stone. This is important because a similar pattern preceded large price swings in 2015 and 2017, most recently foreshadowing the frenzy of (manipulation aided) buying that sent the price of a bitcoin to $20,000 briefly before prices cratered the following year.

Starting in October, a large number of holders who hadn’t touched their Bitcoins for between six months and more than 2-1/2 years began moving their coins, according to analytics provider Flipside Crypto. The trend has continued since the start of the new year, with so-called digital wallets that have been active in the last 30 days now holding about 60 percent of the circulating supply, the Boston-based firm found.

“It’s definitely a big shift,” Eric Stone, head of data science at Flipside, said in an interview. “There’s more potential than usual for price swings.”

The bitcoin market is notoriously concentrated. About 1,000 addresses – often referred to as “whales” control some 85% of all Bitcoins, and include many early investors that have remained relatively inactive during the stratospheric price surge and collapse of the past two years.

“We’ve definitely seen that many long-time holders of Bitcoin are becoming active,” said David Balter, chief executive officer of Flipside.

[…]

“The fact that those wallets have been recently active leads us to believe they could soon be active again,” Stone said. “Put another way: We have no reason to expect them to remain stagnant for another 2-plus years.”

For anybody who doubts the power that whales can exert on the price of bitcoin, just look back at the chaos unleashed in September when a mysterious wallet with $720 million in bitcoin aroused from its slumber and started dumping coins.

It wasn’t pretty.

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Authored by Andrew Syrios via The Mises Institute,

Newly elected congresswoman Alexandria Ocasio-Cortez may not be the expert on the Israeli and Palestinian conflict or what the three branches of the American government are, but she certainly thinks herself an expert on tax and energy policy. Her energy policy involves reducing carbon emissions to zero within 12 years.

What will pay for the enormous amounts of subsidies necessary to make this happen? Well, it’s simple. As she says, “People are going to have to start paying their fair share in taxes.”

(FYI, here’s the liberal definition of fair share: Fair share (noun): “More… A lot more.”)

She continued, “If you look at our tax rates back in the 60’s … once you get to like the tippy tops, on like your ten millionth dollar. Sometimes you see tax rates as high as 60 or 70 percent.”

In other words, the United States, with a measly 37 percent as its highest tax bracket, should join the rest of the developed world with radically higher taxes. Just like, say, Finland (45 percent), the United Kingdom (45 percent), South Korea (40 percent), Norway (38.52 percent), New Zealand (33 percent) or Hong Kong (15 percent). (The highest income tax bracket in the world is Sweden at 61.85 percent, although the average for EU countries is 39 percent, only two points higher than the United States.)

This line of thinking is not new on the Left. In fact, Cortez got here numbers mixed up. She was supposed to say 90 percent. Back in 2016, Bernie Sanders noted that “When radical, socialist Dwight D. Eisenhower was president, I think the highest marginal tax rate was something like 90 percent.” Paul Krugman said the same thing as did Michael Moore in his film Capitalism: A Love Story and you’ll see this factoid repeated on countless memes floating around the Internet.

However, as Alexandria Ocasio-Cortez herself pointed out, what a tax rate is and what is actually paid are two very different things. Naturally, the average American would not be paying 70 percent of their income because these are marginal rates, so they would only pay on any earnings above the threshold. Indeed, in 1955, the only people paying 90 percent (actually 91 percent) were those making over $3,425,766 when adjusted for inflation in 2013 dollars. But while Cortez is right about marginal rates, what actually happened in the 1950’s and 1960’s completely undercuts her argument.

Tax Rates in the 1950s and 1960s

Tax law has changed a lot over the years. As you can see by looking at the top marginal rate versus the inflation-adjusted top income bracket for those filing jointly from 1950 until 2013:

Top marginal rate versus the inflation-adjusted top income bracket; Source: Tax Foundation.

Today, there are seven tax brackets. In 1989, there were only two. In 1955, there were an utterly ridiculous twenty-four different tax brackets.

Regardless, one should ask how much the rich were actually paying. It should be noteworthy that back in the 1950s, the government wasn’t actually collecting any more in tax revenue as a percentage of GDP. There’s something called Hauser’s Law, which basically states there is a maximum threshold on how much the government can tax out of its population. I believe this “law” is no such thing. If the government really wanted to expropriate more, it could do so. But Hauser’s Law is based on the fact that in pretty much every year since 1950, the government has collected between 16 and 20 percent of GDP in taxes. Here are the government tax receipts compared to the top marginal tax rate:

Total Tax Receipts vs Top Marginal Tax Rate; Sources: Tax Foundation and Tax Policy Center.

As you can see, no matter what the rate has been, the tax receipts have pretty much been the same. In 2017, it was 17.01 percent. Whether or not you can raise the amount collected is really immaterial here. The only thing that matters is what has happened (particularly when tax rates were over 90 percent) and it’s pretty much always been the same.

Of course, there are a lot of other taxes than personal income taxes. Still, tax receipts from personal income taxes have consistently been between 7 and 9 percent . In 2014, they were 8.1 percent. Furthermore, as you can see, the chart looks pretty much the same when looking at personal income tax receipts and the top marginal tax rate.

Income Tax Receipts vs Top Marginal Tax Rate; Source: Tax Foundation.

But Alexandria Ocasio-Cortez might retort by asking who is paying these taxes? Has the burden fallen more on the middle and lower classes? Well, no. In fact, the percentage of taxes paid by the highest quintile of income earners has steadily gone up since 1980. In 1980, the top 20 percent paid about 55 percent of all income taxes. Today, it’s just shy of 70 percent. The same goes for the top 1 percent, which went from about 15 percent in 1980 to just shy of 30 percent today.

The first of many reasons that this was the case is again what Cortez herself pointed out; that we need to look at the adjusted tax rate, not the top marginal tax rate. So for example, if I make $20,000, I owe 10 percent under today’s tax code, but only on any income over $18,450 (filing jointly). So I only owe 10 percent of $1550, or $155. Yes, my marginal tax rate may be 10 percent, but the real amount I pay is 0.78 percent.

A study from the Congressional Research Service concluded that the effective tax rate for the top 0.01 percent of income earners during the period of 91-percent income taxes was actually 45 percent. Given that the top bracket is so much lower today ($3,425,766 in 1955 vs. $500,001 in 2018), the 37 percent top marginal rate probably yields something pretty close.

This dynamic was also partly because corporate rates have always been lower than 50 percent. And as Alan Reynolds noted, when the personal income tax rates were reduced, it “… induced thousands of businesses to switch from filing under the corporate tax system to filing under the individual tax system.” In other words, many rich people kept their money in corporate entities when personal tax rates were higher.

Another major factor was the myriad of deductions and loopholes that used to be available. Many of these were eliminated by the Tax Reform Act of 1986 , which by no coincidence coincided with the biggest rate deductions. For one, interest had previously been deductible on all loans. After the act, it has only been deductible on home mortgages .

But what was probably the biggest lost deduction for wealthy individuals was the elimination of deductions on passive investment losses for real estate. Before 1986, wealthy individuals would often buy real estate with no hopes at all of their properties cash flowing. That wasn’t the point. The point was that real estate is depreciated every year in the eyes of the IRS. Even though in the long run, properties usually go up in value, the IRS assumes that every twenty-seven-and-a-half years (39 for commercial property) a property’s value will depreciate to zero. (Technically—this only counts for the building value, which is usually about 80 percent of the price, and not the land’s value—but we’ll ignore that for simplicity’s sake.)

This “loss” can be written off. So, for example, say someone earning $100,000 a year buys a property worth $275,000. He rents out the property and breaks even on it. The tax code allows this person to write off $10,000 as a loss which can be counted against his income for that year. So now he only has to pay taxes on $90,000. If he owned ten such properties, his income would be zero, at least according to the IRS.

That deduction is now gone for everyone but “active” real estate investors, or those who invest in real estate as a career.

Indeed, one former tax accountant even made the case that there were so many deductions, loop holes and the like in the pre-1986 tax code that “… there was a massive amount of tax fraud at all income levels under the old code. It was so bad and so common that most people took pride in telling others how they cheated on their taxes.”

I’ll leave how true that statement is to the reader, but from what I’ve heard, it sounds about right.

Regardless, the simple fact is that the rich never paid 70 percent or 90 percent of their income in taxes or anything even remotely close to that. Alexandria Ocasio-Cortez will have to look elsewhere for how to rid the world of fossil fuels by 2041.

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Just three weeks ago, when the S&P was on the verge of a bear market down nearly 20% from its Sept 20 all time highs, JPMorgan provided a simple explanation for the relentless selling pressure: widespread institutional capitulation as deleveraging coupled with margin calls forced hedge and mutual funds to dump exposure and hit virtually any bid in a panic scramble to meet a surge in year-end redemption requests.

As JPM’s strategist Nikolaos Panigirtzoglou noted then, extrapolating spec positions to capture the latest open interest changes – the red dots in the chart below –  showed a reading that was not far from the previous capitulation levels of January/February 2016.

Additionally, the short interest on the SPY – the biggest equity ETF used by institutional investors to express equity views – had jumped to the levels previously seen also during the capitulation episode of January/February 2016. This happened just as  momentum chasers and trend followers such as CTAs had finally flipped short for the first time in three years in mid-December.

What was notable about these observations is that according to Panagirtzoglou, this widespread capitulation was “creating a window of opportunity for equity markets into Q1 assuming the Fed reacts to market stress and skips the March meeting” with one caveat:  “beyond March, a much bigger dovish shift would be required by the Fed to unwind the inversion at the front end of the US yield curve” something we noted earlier. And, as the JPM strategist adds, “if such dovish shift does not materialize and the yield curve inversion fails to improve, any equity rally in Q1 would most likely be short-lived.“

Well, Panagirtzoglou was spot on, because just two weeks later, Chair Powell indeed made a surprising dovish reversal “responding to market stress” as the S&P hit the “Powell Put” level of just above 2,300 which was later confirmed by the FOMC’s December Minutes, which in turn sparked the biggest market rally in years as traders scrambled from one extreme to another and in the last week, the capitulation was clearly over and was replaced by manic BTFD euphoria as investors bought a little bit of everything including international equity funds ($3.8bn), government bonds ($3.6bn), EM bonds ($2.4bn), EM stocks ($2.4bn), and HY bonds ($1.5bn) (even as they still sold financial stocks ($1.5bn), IG bonds ($1.4bn), and tech stocks ($0.6bn).

Still, despite this rush into risk assets, in his latest Flows and Liquidity, Panagirtzoglou writes that the signs of capitulation which he discussed on Dec 21, “are largely still in place as indicated by the still low level of our equity betas… These equity betas include systematic traders such as risk parity funds and momentum traders such as CTAs.”

Meanwhile, as we predicted would happen, CTAs – which turned net short for the first time in years in mid/late December…

… are now in short covering mode according to JPMorgan.

It’s not just the quants who were forced to cover: as JPM notes, the short interest on the SPY has finally started retrenching from the very high/capitulation levels seen at the end of last month, also suggesting sharp short covering by institutional and retail investors. Indeed, looking at the chart below suggest that if indeed the short squeeze has begun, it will have a long way to go before it reaches the levels from late September.

So what does all of this imply for risk assets?

Well, just as JPM correctly predicted that capitulation would be bullish for stocks – the S&P500 indeed jumped 10% from December 24 – so the risk now is that an overextended reaction in the opposite direction as short covering continues and equity markets recover, leads to the possibility that the Fed makes a u-turn and becomes hawkish again.

According to JPMorgan, “this could indeed be a major risk for equity markets into Q2.”

Finally, how to know if the market is expecting such a reversal? The same way the market predicted the sharp tightening in the fall: the 1m US OIS rate 2y-1y forward spread, which rebounded notably in the past two weeks.

Here is Panagirtzoglou summary: 

“If such a U-turn happens and if markets see a risk that this u-turn is a policy mistake, JPMorgan predicts that it will likely show up early enough in the 1m US OIS rate 2y-1y forward spread of Figure 1 which would deteriorate and turn more negative again.”

So, as the JPM strategist concludes,  monitoring this variable going forward is critical to gause whether the Fed Put was indeed triggered, or if the recent surge in the market means that the Fed is about to turn hawkish once again.

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While standing in a Gulf Arab capital on Saturday, continuing his eight day tour of the Middle East primarily to assure allies that the US hasn’t “abandoned” to region to Iran with its impending Syria pullout, Secretary of State Mike Pompeo addressed another “pariah state” problem, but thousands of miles away in Latin America, ironically while standing in an “allied” Gulf autocratic sheikhdom.

Speaking to reporters in the UAE capital of Abu Dhabi he spoke about regime change — this time not in the Middle East — but in Venezuela, another country under various forms of sanctions by the US for over a decade. In surprisingly provocative comments Pompeo threw the United States’ full weight behind Venezuela’s opposition seeking to depose President Nicolás Maduro, who days prior on Thursday was inaugurated for another, much-disputed six-year term, which many Western leaders have refused to recognize. 

In some of the most unrestrained comments expressing future administration plans for the Maduro regime to date, Pompeo said the US would work with allied partners to restore democracy there. 

“The Maduro regime is illegitimate and the United States will work diligently to restore a real democracy to that country,” Pompeo said to reporters. “We are very hopeful we can be a force for good to allow the region to come together to deliver that.”

His words followed on a previous State Department statement from earlier in the day expressing US support to the  head Venezuela’s opposition-run congress, Juan Guaido, a day after he expressed willingness to step into the presidency temporarily to replace Maduro. “The people of Venezuela deserve to live in freedom in a democratic society governed by the rule of law,” State Department spokesman Robert Palladino said.

The official statement, also released from Abu Dhabi during Pompeo’s trip, continued the Washington theme which spans multiple administrations of “orderly transition” in Caracas: “It is time to begin the orderly transition to a new government. We support the National Assembly’s call for all Venezuelans to work together, peacefully, to restore constitutional government and build a better future.”

“The United States government will continue to use the full weight of US economic and diplomatic power to press for the restoration of democracy in Venezuela,” the State Dept. said. 

This comes after days ago Vice President Pence wrote earlier this took to Twitter  to slam the “sham” election that had led Maduro to a second term: “The US does not recognize the illegitimate result of a stolen election,” Pence tweeted. “We’ll continue to stand with the people of Venezuela and against Maduro’s corrupt regime until freedom and democracy prevail in Venezuela!”

However, given that the socialist country has already fallen deep into a perfect storm of starvation, disease, a lack of healthcare, extreme violence, and infrastructure collapse, the usual Washington playbook of “more rounds of sanctions” and calls for regime change to “restore democracy” will most likely only fail.

From Iraq to Iran to Syria to Libya — or beyond that other comparisons from the 20th century — the historical record shows sanctions and political “isolation” only increases the people’s dependence on the regime, in many ways strengthening its grip of power, while compounding the misery of the masses. The regime can then legitimately claim a destabilizing foreign power is subverting the country’s independence, resulting in “blowback” for the US and its policy planners. 

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