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Exactly three weeks ago, we advised readers that JPM’s head quant, Marko Kolanovic had doubled down on his call to buy“once in a decade” cheap value stocks while shorting low-vol factor names. To justify his case, Kolanovic showed the following chart, which demonstrated just how overvalued the “low-vol bubble bubble” had become…

… with the embedded assumption that just because the spread was massive, it couldn’t get any bigger. And after all, after he first recommended rotating into low vol stocks and the trade imploded, odds were pretty good that he would get it right this time. Commenting on his recos, this is what we said: “so for all those who got crushed buying the “once in a decade” value-low vol convergence, Kolanovic has some words of encouragement: hang in there, cause he will eventually be right, even though as he himself admits, he has absolutely no better visibility into what is going on in China than anyone else, demonstrating just how great the dangers of getting wed to a given trade can be, especially when trading without a stop loss threshold:

We reiterate our call to sell out of defensive assets and rotate into cyclical assets such as value stocks, commodity stocks and EM. Risks to our base case include the potential for new epicenters of the disease and reacceleration of new cases. Most investors are not even trying to forecast various  scenarios, but rather look to bond yields for an ‘all-clear’ signal for rotation and rerisking. In various discussions, clients indicated that 10Y bond yields reaching 1.75% would be a signal to sell momentum, sell tech (secular growth) and defensives, and rotate into cyclicals and value.

We concluded by saying that “we’ll check back in three weeks – when as JPM’s “base case” says predicts the Chinese chaos should be over – to see if maybe this time Kolanovic was finally correct.”

He was not.

Fast-forwarding to today, exactly three weeks later, we find that after this week’s crash in energy, i.e., deep value stocks, that anyone who was still long value got absolutely destroyed, while the ongoing surge in low vol stocks may have been the proverbial straw that broke the bagholder’s back.

Meanwhile value stocks (which these days are mostly banks, insurance companies and oil names) have continued to be an unmitigated disaster, and as Bloomberg’s Ye Xie writes, even as the S&P hurtles to a bear market, they continue to “underperform growth companies and there’s no end in sight. The ratio between S&P 500 Value Total Return Index and its growth counterpart tumbled to the lowest since the turn of the century. “

In other words, anyone who took advantage of the “once in a decade” decoupling between energy and value stocks last July, when Kolanovic first recommended it, was likely carted out this week.

It wasn’t just value stocks that Kolanovic was pitching: he was also once again bullish on the market, due to a rather bizarre assumption: that the economy would start improving despite the coronavirus pandemic, to wit:

Given the severity of the outbreak, the market may wait to see not just a decline in the absolute number of cases, but a significant pick up in datasets capturing real-time economic activity. Our base case is that this would happen within 1-2 weeks.

Not only has the coronavirus pandemic not improved with clusters now across Europe and various US states, but adding fuel to the flames was the plunge in oil, which crushed energy (i.e., value stocks) to a level not seen in decades. And while there is no way Kolanovic could have foreseen the breakdown in OPEC, as his clients’ risk manager he should have considered the risk of pushing everyone into value stocks which have now caused irreparable harm.

So where does this leave Marko and his merry JPMorgan men? Why tripling down, because after he was wrong once, and dead wrong the second time, today the JPM quant team led by Kolanovic and Lakos-Bujas is out with a paper addressing what little is left of JPM’s clients, and advising them that the “risk/reward is improving”… which is of course true after the biggest market crash since the financial crisis, a crash which none of JPM’s quants called correctly (or incorrectly) in advance.

Here’s how the JPM quants lay out the events of the past week:

The equity market has been coping with the COVID-19 outbreak across developed markets for the last two weeks, forcing investors to guesstimate the impact to demand, supply chain disruptions and credit. The Saudi/Russia oil price war that broke out over this weekend (oil collapsed by 25%, largest decline since ’91) turned an already fragile backdrop into a perfect storm for risky assets on Monday, March 9th—essentially a black swan event. S&P500 experienced an outright crash. The 8% one-day decline turned out to be the worst day for S&P500 since 2008 (19th worst day since 1928). While this sell-off has wiped out 2-years’ worth of gains for S&P500, history suggests that equal or worse single-day sell-offs were followed by median forward returns of +4% and +17% over the subsequent 1-week and 12-month periods, respectively.

What JPM fails to mention is that if indeed this is the start of a recession, the market is usually far lower over a 12-month period. But it’s not like the bank has biased, bullish agenda. Anyway, back to the shocked take by JPM which could not possibly have predicted anything that has happened in the past few days:

The speed and intensity of the sell-off has shaken investor confidence with many now modeling recession scenarios even though there is still significant lack of clarity on the actual fundamental impact. It is important to keep in mind that the sharp sell-off is also symptomatic of a fragile market structure that can amplify price both downside and upside—a volatility shock coinciding with a collapse in liquidity and significant forced selling by systematic portfolios (i.e. similar to Dec ’18 market crash).

JPM next goes on to show just how unprecedented the market’s move has been in a historical context, perhaps because this will somehow absolve the bank of failing to prevent its clients getting slaughtered in value stocks:

The S&P500 multiple just experienced one of the largest multiple de-ratings in the last 30-years. Over the last 1-month its multiple de-rated by ~3.5 turns, which is comparable to the TMT recession and the GFC. The index multiple is currently at 16x (assuming a conservative earnings growth of 3-4% in 2020)…

We interject briefly here to ask why on earth would anyone think that in a year in which China’s economy is now contracting any will take months if not quarters to get back to normal, will earnings groth be 3-4% with supply chains in tatters and company after company pulling guidance. But then we remember it’s JPMorgan and suddenly everything makes sense again. Anyway, continuing:

… putting it in-line with its long-term median. Additionally, in a world of near-zero rates and low nominal growth, US equities are one of the few remaining higher quality yielding assets, with a dividend income of ~2.3% and 4-6% long-term EPS growth. Currently, a record ~85% of S&P500 stocks have higher dividend and shareholder yields than US 10yr bond yield (see Figure 6). More so, equity positioning has significantly reduced. Fund flows from equities-to-bonds have reached extreme levels on a 3, 6, and 12-month rolling basis measured since the beginning of this cycle. Since the start of this sell-off, we estimate that retail and institutional equity fund flows have seen ~$40B in outflows (compared to ~$60B during the 4Q18 sell-off). Systematic strategies have sold ~$400B in equities and broadly their equity positioning currently sits at very low levels. All the key momentum signals have turned negative (e.g. including 12m) and 1-2 month realized volatility measures are at cycle highs. While buyback activity was slow at the start of the year with market reaching new highs, both discretionary and program-based buyback executions significantly picked up during the current market sell-off, recently running at ~$6-8B per day.

JPM’s next argument: the market is massively oversold so it can’t be any more oversold. Which is great in theory, just don’t show them the chart above of what happens when this is dear wrong:

The current equity sell-off reached bear market territory (~ -20% from peak) and is now almost in-line with the median market-sell off since 1928 that preceded an upcoming recession. Based on history, a market sell-off of this magnitude implies a 65-75% chance of a recession in the next 12 months…

So surely JPM will admit that, since the market is always right, a recession is imminent and clients should get out of stocks. Only… that’s not the case, and instead JPM thinks “the market has gone ahead and priced in too severe of an adverse scenario, assuming we get timely and strong counter-policy response and a COVID-19 outbreak that peaks in the coming weeks.” Amusingly, this is precisely what was behind JPM’s positive case just three weeks ago, and we all know what happened there. Luckily, there is always the Fed and US government to bailout any wrongrecommendation:

JPM Economics is now expecting the Fed to cut rates to 0% at the upcoming FOMC meeting or sooner, with the potential of providing dovish guidance and considering additional policy tools (i.e. asset purchases). The US administration is working on a potentially large stimulus plan targeting both individuals and businesses most impacted by COVID-19. For instance, we estimate that a combination of payroll tax reduction, refinancing of in-the-money residential mortgages and lower gasoline prices could cushion the average US household by providing ~$1,000 saving in the next twelve months. Most importantly, the spread of COVID-19 in Europe and in the US remains highly uncertain, however JPM research (see Report) is modeling cases to peak end of this month / beginning of next. In Asia, 3 of the largest markets are seeing relative improvement. New cases in South Korea appear to be peaking, China continues to deliver on a gradual normalization with limited new cases (factory capacity up to 90% for mid-large enterprises), and Taiwan has sidestepped the outbreak (see Report). Also, on the commodity front, the period of depressed oil prices could be short-lived as Saudi/Russia pain thresholds are surpassed.

So if anyone though that after all that, JPM would finally call time on its bizarre, pathological insistence that the bull market will continue (with 3-4% EPS growth no less) despite an ongoing viral pandemic which just shut down Italy and has crippled China’s economy indefinitely, coupled with an all out price war which was destroyed the energy sector, one would be wrong, to wit: “Given the above base case, we view the current level of S&P500 offering an attractive risk-reward, and maintain our 2020 S&P500 price target of 3,400.“

At least this time JPM’s quants have the decency to admit that their call is nothing more than a coin toss: “We do acknowledge the potentially extreme binary outcome as we work through the impact of COVID-19, but still hold the view that policy supports should ultimately outlast the outbreak.”

Oh, because printing money or offering tax breaks somehow cures viruses? Well that’s news to us. But what happens if that’s, gulp, not the case and the coin lands tails and JPM is wrong once again?

If COVID-19 intensifies and proliferates well beyond JPM base case scenario and the anticipated counter-policy responses turn out to be underwhelming, the S&P500 will most likely face further downside. Under this pessimistic scenario, the equity multiple may not find a bottom until it hits 14-15x and EPS growth turns negative—implying a recession case of ~2,300 level for S&P500.

To summarize: JPM thinks the S&P will hit 3,400 in a “binary” outcome where everything happens as priced to perection, but admits that in case it is wrong again, the downside case is a crippling bear market that sends the S&P down another 400 points to 2,300. We don’t know about JPM’s remaining clients, but we will take the latter.

After the precipitous decline in bond yields over the past few days, traders were keenly looking to today’s 3Y coupon auction to gauge primary market demand for US paper following the record repricing. And with good reason.

Moments ago, the Treasury sold $38 billion in 3Y paper, which priced at a high yield of 0.5630%, the lowest since May 2013 and a whopping 2.7bps tail to the 0.536% When Issued – this was the third consecutive tail and the biggest in at least five years of auctions.

The gaping tail was not the only indication of waning auction demand for US paper: the bid to cover plunged from 2.56 to 2.20, far below the six auction average, and the lowest BtC since December 2008!

The internals were ugly as well: while Indirect appetite was there, taking down 52.3% of the auction, it was the plunge in Directs that was shocking, with just 3.7% alloted to Dealers and far below the six auction average of 18.2 This left Dealers holding 44.0% of the auction up sharply from 38.0% in February and the highest since November 2018.

What today’s auction reveals is that a new problem may be emerging: whereas until now there were no concerns about auction demand, yields are now so low (and even lower when FX hedged), that should the yield drop persist we may soon have an auction where mandatory Dealers, and a handful of Indirects, are the only buyers to emerge. Which of course is yet another reason why the Fed will soon have no choice but to launch Quarantative Easing and restart buying coupon treasuries outright.

Authored by Jonathan Turley,

If reports are accurate, influence peddling may be something of a family cottage industry. While Congress continues to look at the Hunter Biden contract and his effort to sell his name to foreign companies, the brother of Joe Biden is facing the same allegations in an expanding controversy over his selling of his connection to the former vice president. James Biden was anything but subtle in his pitching his connections to his brother.

While it has received little attention in the media, James Biden has leveraged his connection with his brother for years in open pitches for contracts with major business like Americore (which is now in bankruptcy and the subject of a FBI investigation that is not contacted to Biden). Biden arranged for Americore founder Grant White to meet his brother.

Former Americore executive Tom Pritchard and others allege that Biden promised a large investment from Middle Eastern backers while he openly referenced his access to his brother and his family name. Biden is facing a wide array of litigation over allegedly fraudulent activities as well as a personal loan acquired through Americore before it went into bankruptcy.

The effort of Hunter and James Biden to peddle access and influence with Joe Biden could become an even greater issue in the 2020 election. Joe Biden has bizarrely continued to claim that “no one has suggested that my son did anything wrong.” He seems to be drawing a distinction between what is criminal and what is not — as if the criminal code is the only measure of wrongdoing or unethical conduct. Now a pattern exists of not just his son cashing in on his influence but his brother. That is wrong regardless of whether it is criminal. The expanding litigation surrounding James Biden could force a broader debate about that distinction.

For decades, I have written against this form of corruption as family members receive windfall contracts as a way of circumventing bribery laws. This remains the preferred avenue of the Washington ruling class to cash in on their positions. When confronted, they then (as did Biden) object that critics are attacking their family or their children. For that reason, little has been done to crackdown on such deals. For some in the media, there is a tendency to look the other way when they support the candidate or oppose the other party. The fact is that it is all corruption and influence peddling and it is all perfectly legal . . . and perfectly wrong.

Authored by Bill Blain via MorningPorridge.com,

Buy Dips or Sell Rally?

 

“The Renaissance took place in an era of chaos and plague”

After yesterday’s sea of red, stock prices are green again. Phew…! Everyone breathe easy and buy the dip? Does that mean we forget yesterday’s cataclysm of clichés: “carnage”, “bottomless”, “rampant uncertainty”, “volatility storm”, and some unimaginative analyst even opined it was a “perfect storm”? Forget the fact Italy has gone into a countrywide lockdown – the market is apparently confident promises of further easing, relief packages, and even Donald Trump reversing from his earlier “Virus is Fake News” calling for payroll tax cuts and industrial sector bailouts, means everything will be “tickety-boo”. 

Bollchocks to that! 

First, you can’t spend and promise yourself out of a natural disaster, and second, yesterday’s crash was entirely predictable.  

We know the virus is spreading, and likely to turn Pandemic, and we knew the Saudi/Russia axis was wobbly. As the virus takes hold, the fear levels will continue to rise. Yesterday was a new chapter where all the negative aspects of the unfolding exogenous shock narrative were suddenly amplified by an oil shock. They reinforced each other to create a Black Monday that’s worth putting in the history books. But, it isn’t over yet. In fact, I suspect its still only beginning. 

Contagion has swept through the whole market.

It’s not just stocks and oil. Corporate bonds are now as illiquid as set concrete, while dealers aren’t able to find bids for corporate bond ETFs. We’ve all suspected ETF liquidity would be thin – but this is the first time liquidity has really been tested in recent years. I confidently predict massive liquidity failure will trigger further unintended consequences – especially when retail starts trying to exit daily liquidity funds. Who will be the first to Gate a fund? How embarrassing.  

However, this market crisis feels very unlike previous crashes. It seems to be happening in slow motion. I’ve worked through all the big ones since 1987 (although the great Perp Disaster of 1986 was my very first experience of market meltdown). This morning I’m looking at the wreckage from yesterday and thinking the Oil Shock aspect is probably done and dusted. (We will still have to see what happens to Shale producers – but that likely puts a floor on the market.) A falling out between Russia and Saudi was always on the cards as both chase different strategic objectives. The instability enveloping Saudi leader Prince MBS is a repeating factor. Does that mean it’s time to pile into oil stocks after they took a particularly heavy beating y’day? Or should we wait to see what the Virus does next? 

That depends on your read of current market events:

A) Is the current volatility just a reaction to the unexpected Coronavirus shock, with the strong likelihood positive market direction will be restored once the authorities have “sorted-it-out”?

or

B) Is this the first act in a spectacular Götterdämmerung of an overlong bull market, as the virus signals the collapse of an overpriced stock bubble, fuelled by foolishly low interest rates which could now trigger secondary corporate and even sovereign debt corrections?

Your answer to the above determines whether you buy the dips or sell the rallies. 

As Italy shows, there is plenty of virus pain to come. Yesterday’s oil crash would have been a massive over-reaction in a normal market, but as the current virus narrative shows increasing transmission and rising infection clusters – these will keep everything on edge for longer. Even when we see signs transmission rates are under control, we’ll still have to figure just how deep the damage has gone in terms of corporate leverage, supply chains and default contagion.

There is lots of news about how China cracked contagion through its authoritarian containment efforts. These can’t be replicated in the West. And we don’t actually know theses measures have worked in China – yet. As workers start to return to work, the authorities are clearly nervous about the Virus erupting again. 

At the moment I suspect most governments are making lots of public noise about their Coronavirus contingency planning, but are praying for Spring and warmer weather to put the threat to sleep – for a while. They are gambling on the weather! If it pays off it will give them till the autumn to get a new vaccine in place – it will be tight. Try this from the Torygraph – How long will we have to wait for a coronavirus vaccine? And we can pretty much guarantee (from the observed behaviour of previous Covids) that it will be back.   

Today the Coronavirus is generating the market moving stories. Tomorrow – when it comes – will be about the longer-term consequences. Tourism has effectively died across Asia – which could prove critical for global growth for years. This is not going to be a here today, forgotten tomorrow narrative. 

If you want a different take on just what a global reset this may be, try this from my old chum David Murrin: When Denial Is Swamped by Reality (If you need access to his site, tell his bot “Bill sent you.”

And if you still think the Coronavirus story is hype and overjuiced by the media, read some of the stories coming out of Italian hospitals suddenly swamped by patients needed urgent ventilation and intervention because they can’t breathe and their internal organs are going into toxic shock. Italian Hospitals short of beds as coronavirus death toll jumps. This isn’t anything like the flu. For the 20% of patients who get it bad.. they are getting it very bad indeed. 

The big Virus story this morning will be news President Trump proposing to bail out airlines and shale oil producers. He’s heading along the right lines – these will be major business sector contagion vectors for economic damage if/when we start to see a run of defaults. A slew of shale defaults will increase the lockdown in corporate bonds. Fiscal handouts will certainly be more effective than trying to reanimate the economy through rate cuts. (As one talking head said: rate cuts aren’t going to get people flying again..) However, his powers to enact fiscal spends are limited. 

Trump could still prove a critical aspect of the unfolding Coronavirus narrative. He was dismissing it as Fake News a few days ago. Let’s see what happens if we get clusters of infections create mini-Italys across the US, triggering too-late containment efforts, panic buying and health pressures. I suspect small-town hospitals across the UK and US are likely to be swamped. I was reading a critical issue in China to predict the severity of infection has been blood-pressure. That’s not great for small-town America or the UK! 

We could even see the next few weeks influence the November election. Coronavirus may be a slightly worse flu – but Americans are unlikey to forgive Trump if America proves unprepared and the blame is laid at his door – unless he persaudes his supporters it was Joe Biden’s doing!  

From a market perspective, keep looking. There are definitely opportunities out there. And I’m still thinking about the oil majors. Maybe… just maybe this is a moment..

Back in 2015, after the price of oil cratered after Saudi Arabia decimated OPEC during the 2014 Thanksgiving massacre, US shale companies scramble to slash dividend and capital spending in order to preserve liquidity in a time when virtually nobody was cash flow positive with oil trading in the $30. The result, was a capex contraction and eventually, a manufacturing recession which swept across the US.

Fast forward 5 years when the Saudis have done it again, only this time US shale companies and other majors are wasting no time to conserve cash, and moments ago Occidental, whose stock has gotten crushed in the past few months…

… became the first US major to announced it was slashing its dividend from 79 cents to just 11 cents, a record low…

… and more importantly, cutting CapEx. From the press release:

cidental Petroleum Corporation (NYSE:OXY) announced today that its Board of Directors approved a reduction in the company’s quarterly dividend to $0.11 per share from $0.79 per share, effective July 2020. The company also announced it will reduce 2020 capital spending to between $3.5 billion and $3.7 billion from $5.2 billion to $5.4 billion and will implement additional operating and corporate cost reductions.

“Due to the sharp decline in global commodity prices, we are taking actions that will strengthen our balance sheet and continue to reduce debt,” said Vicki Hollub, Occidental’s President and Chief Executive Officer. “These actions lower our cash flow breakeven level to the low $30s WTI, excluding the benefit of our hedges, positioning us to succeed in a low commodity price environment.”

And as all other US E&PS rush to follow in OXY’s footsteps, and capital spending grinds to a halt, the next manufacturing recession has officially begun, courtesy of Saudi Arabia.