Wednesday, July 23, 2014

The Morning Call--At some point, the music will stop and you won't be the first out of the door

The Morning Call

7/23/14

The Market
           
    Technical

            Happy days returned yesterday with the indices (DJIA 17113, S&P 1983) closing above their 50 day moving averages and within uptrends across all time frames: short (16202-17681, 1916-2082), intermediate (16593-20891, 1856-2656) and long (5083-18464, 762-1999). 

            Volume increased slightly; breadth improved.  The VIX fell, finishing below its 50 day moving average and within short and intermediate term downtrends.  With the S&P a mille short hair away from a new high, a check of our internal indicator shows that in a 147 stock Universe, 22 stocks are at or near new highs, 27 are below but only slightly and 98 aren’t close.  This is the worse reading in sometime and reinforces the growing number of divergences.

            The long Treasury rose, closing above the upper boundary of its short term trading range for the second day.  If it finishes above that boundary today, it will confirm the break and re-set to a short term uptrend.  This pin action is likely reflecting rising concerns about a weakening economy brought on by that string of negative datapoints that I have been worried about.  TLT remains above its 50 day moving average and within its intermediate term trading range.
           
            GLD declined, closing above its 50 day moving average and within a short term trading range and an intermediate term downtrend.

Bottom line: the investors remain impervious to bad news in the sure knowledge that the music isn’t about to stop and that they are smart enough to be the first out the door when it does.  However, the divergences continue to grow.  The small caps (higher risk) haven’t been able to keep up with the large caps---a sign of increasing worries; and our internal indicator just gave off the worse reading in this Market cycle.  Nonetheless, until investors cease assuming that all news is good news as long as Fed policy is easy and realize that there is only one ‘first’ out the door, the Market bias will likely remain to the upside.

That said, the bad news that the prevailing euphoria has to overcome keeps piling up: violence in Gaza/Israel and Ukraine is increasing, China has apparently forsaken its earlier attempt at monetary rectitude and Portugal’s Espirito Santo insolvency may be more systemic than anyone wants to acknowledge.  But at this moment, only the Shadow knows when investor psychology is going to change.

Our strategy remains to do nothing save taking advantage of the current momentum to lighten up on stocks whose prices are pushed into their Sell Half Range or whose underlying company’s fundamentals have deteriorated.

            What does the small caps relatively poor performance mean? (short):

    Fundamental
    
     Headlines

            Yesterday’s US economic news was generally upbeat: weekly retail sales were mixed; June CPI was very slightly better than expected; and June existing home sales and the July Richmond Fed manufacturing index were above estimates.  It is nice to finally have a positive day of data; but it was insufficient to assuage my concerns about the recent trend of lousy stats.

            Bottom line: meanwhile, they are dropping like flies in Gaza, threats of sanctions are sailing in both directions in Ukraine, Iraq is collapsing, China has joined the QE crowd, the Espirito Santo insolvency may not be contained and the recent economic numbers here are not that reassuring.  I am not suggesting that any of the aforementioned will blow up in our face today.  But to ignore them when stocks are priced for perfection seems a bit overly sanguine to me.

Chinese debt continues to grow (short):

            Espirito Santo’s problems could be systematic?  Who’d thunk? (medium):

My bottom line is that for current prices to hold, it requires a perfect outcome to the numerous problems facing the US and global economies AND investor willingness to accept the compression of future potential returns into current prices.

 I can’t emphasize strongly enough that I believe that the key investment strategy today is to take advantage of the current high prices to sell any stock that has been a disappointment or no longer fits your investment criteria and to trim the holding of any stock that has doubled or more in price.

            Bear in mind, this is not a recommendation to run for the hills.  Our Portfolios are still 55-60% invested and their cash position is a function of individual stocks either hitting their Sell Half Prices or their underlying company failing to meet the requisite minimum financial criteria needed for inclusion in our Universe.
        
            It is a cautionary note not to chase this rally.

            Sell now or keep dancing? (medium):

            More on valuation (medium):

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