The Grand Finale Has Begun: Great Danger Is Now Brewing for Both Bulls AND Bears
Feb Strategy Part 2 (Critically Important): Markets don't believe Jerome. And short-sellers are getting squeezed. The Bears are powerful. They will come back when least expected.
Note to Readers: This note will serve as Part 2 of my Feb Investment Strategy. I’ve included a thoughtful, helpful preview here for my public friends. This is an important one. Please read.
Members,
Much has happened this week, and it’s only mid-week.
Folks know that I like to send out research and views before pivotal events happen, even with the risk of making such calls. Whether I’m right or wrong, I’m happy to share with you my methodology, which I sincerely believe is very helpful in different market environments.
I think by the time the actual macro/fundamental event actually plays out, it’s much too late, and risk is greatly heightened afterwards. For this reason, unlike many others who wait and see, I decide to provide a preview into what I believe may come (even if it means I end up being wrong). I’m okay with this because I believe my methodology is sound.
A quick summary on what has worked in my favor and against my favor in my PRE-FOMC note.
Working in my Favor.
I was tactically bullish on ZIM for reasons noted in my Pre-FOMC note. I purposely sent this note out before FOMC. ZIM traded 19. Today it touched 23. I have a small position, but will not regret not adding more. Gains are gains.
I was modestly bearish on AXP (American Express) on the thesis that a White-Collar Recession makes its recent surge prone to profit taking. Today, on a day where SPX and QQQ are soaring, AXP trades only modestly higher. This is a win from a hedging perspective as it lowers portfolio Beta and increases the Sharpe Ratio without sacrificing net returns.
I conveyed very cautionary language on BABA (look I understand and I fully know that most good folks who follow me want to make money on BABA on the long side, I get it). I shared reasoning behind why I believed a falling TCOM will lead to BABA weakness.
Working Against My Favor:
Now I personally think markets are priced for perfection and some names are poised to pullback. However timing is tremendously difficult (esp. High beta), and my hedges in some of these names (small positions compared to longs by design) are going against me. These short positions I have on are small and don’t hurt my positioning too much, but do serve as a drag on gains. My shorts to longs ratio is about 1:10, as implied with my language where positioning is sized “significantly smaller”. Shorts on AXP, NFLX based on my entries are performing well as hedges to lower portfolio variance. Shorts on SHOP, META, NVDA are slight drags on performance. Each position is sized conservatively in very small bite-sized chunks.
As you can see, I’m happy to share with you my methodology, and my views. I really do want you to succeed in this market with me.
Before we get into my thoughts on today’s FOMC, with so much for readers to digest, I want to take a moment to quickly reiterate views from the past 60 days or so.
Back in December, I penned this piece titled an Elusive Rally may be coming. You can read it in full if you wish, but the title summaries the main idea. I viewed that markets had upside potential in December, which as you may recall was a very uncomfortable environment for most investors. This has worked to our favor.
In my January 1st report, I reiterated my view that the January Effect may come into effect in 2023 to support markets and extend the late December bounce. Again, to our favor.
In Part 1 of my February Report, I discussed the fact that I found the markets overpriced. But I gave execution guidance to stay invested unless certain downside thresholds were breached (which they were not).
Now, as we have completed POST FOMC BUT not have undergone AAPL/GOOG/AMZN earnings, I wish to share my views going forward. This is the most critical piece of the report (read below).
In summary, it is my personal belief the market structure suggests that of a melt-up (currently in motion) followed by a violent, unexpected meltdown. This view is strengthened after what I heard from FOMC based on my detailed study of the Fed.
Unfortunately I am not a Financial Advisor, so I really cannot tell you what to do on an individual level.
But speaking out loud: I urge caution, and I urge you to resist feelings of FOMO. Folks who are bullish can simply Hold. I think adding here in high-beta is tremendously dangerous. There is still room to run for Value.
Timing is of course uncertain, and I want to make a distinction about Views and Execution.
My personal view is that markets are overpriced, which I believe is a consensus view. Where my thoughts differ is where/how I shift exposure depending on market conditions. If you have a bearish view, then how do you transact? Many people can share the same view, but how you transact is the difference between whether you actually make money in the market.
In my Feb Part 1, here’s what I said to Members for general positioning that kept us in markets despite extreme skepticism.
With this plan in place, despite a bearish outlook, my plan kept my long exposure to the market to participate in the post-FOMC FOMO (which I fundamentally DO NOT agree with, but remind myself that the market does not care about my own opinions).
In terms of my Pre-FOMC plan from Feb Part 1, here’s what I said:
We entered FOMC with SPX at 4070, and after a bit of tug of war with an initial drop to 4050 mentioned target, the market ended up rallying around 4120. Fast forward to today, we are above 4150 or so - flirting with 4200.
In my note yesterday, I discussed my view that the SPX has around 200 points of upside and up to 500 points of downside.
The FOMC does nothing to change that view. In fact it strengthens it as Jerome says that we’re not even at restrictive territory yet!
With the SPX now above 4150, my mental risk/reward (R:R) is now 150 points of upside left and 600 points of potential downside from here, compared to 200:500 yesterday. I think a disaster is waiting to happen for folks who are buying at the wrong levels.
It doesn’t matter if you’re bullish or bearish, I will always share this framework of thinking so that you understand that despite a core bias, there is still room to position oneself to make money.
If you join my Community, I will almost always present my market outlook in terms of Risk/Reward (R:R) because markets are fluid so it doesn’t make sense to make binary statements such as the “market will rally” or the “market will fall.”
So after today’s rally, the risk/reward continues to move away from bulls. There is still upside left, especially if you factor in short-covering, emotional positioning, and greed.
Indeed a push from AMZN/APPL/GOOG collectively can bring SPX to 4200 and above, but at that level, my model suggests that we are dangerously (from a fundamental standpoint, not technical) close to levels that shift the intermediate-term edge to Bears.
But none of the upside factors I mentioned are not fundamental in nature, and I currently put the soft landing chance of happening to be only 20-30%.
A Poll on my Youtube Community Tab (Click to go on my Channel to vote)
In this Part 2 February note, I will discuss the following areas:
My interpretation of Jerome’s FOMC (Critical for Intermediate-Term outlook)
Updated inter-market charts, data, and observations that inform us about the macro setup.
Thoughts on AMZN/AAPL/GOOG heading into earnings (this is mega critical for investors/traders alike. Absolutely key.)
I will do my best to help you capture as much upside left as possible.
But this is a time where I am asking you to practice immense patience and formulate a plan. I plan to share with you my plan. Markets are most stressful during times of extreme fear and greed.
As of today, we are on the Greed side of the spectrum. What you do (or not do) from here will play a big role in your portfolio health for the rest of the year.
On Jerome - Feb 1st FOMC
I’ve listened to the entire press conference. Here are my takeaways:
Fed Chief Jerome is going data dependent, hence the market rally. He made quite clear that forecasting inflation at this juncture is incredibly difficult. As a result, the Committee is going to make decisions based on incoming data.
Implication: the weight of Economic data moving markets just got larger. The importance of economic data points like Jobs, CPI, PMIs, Housing, Retail Sales just got more important. If there’s even one whiff of Inflation coming in higher than expectations, the whole rally will be put into question.
Jerome says that we’re not yet in restricted territory yet. But we may be close. They see a couple more interest rate hikes
Implication: The way I interpret this, I see this to signal that Fed Funds Rates (FFR) may be close to 5.25%, the upper end of their previous forecast. The market is NOT believing this, and Bonds rallying is a strong signal that they do not believe the Fed will get there, let alone stay there for a long time.
Jerome did not say that Financial Conditions loosened since December 2022 (even though it clearly has)
Implication: The markets interpreted this as a green light that speculation can continue. Components inside ARKK outperformed SPY, Defensives, DIA, and even QQQ.
The key statement to really dissect is this:
In response to whether Financial Conditions were loosened:
Our focus is not on short-term moves, but on sustained changes
Digging into this statement, this means that the Fed’s MACRO intention is to tighten the financial conditions, but in the short-term, they will allow the markets to do what they want to do.
If I pull up a map of the Weekly S&P 500, and think about what this means on longer timeframes, it suggests the following to me:
The window for a soft landing has been somewhat extended, meaning that near-term momentum is higher (like I suggested in Feb Part 1 Strategy). However, personally, I’m not changing my mental risk/reward framework. I think it won’t take much for markets to pull back.
The restrictive nature of monetary policy may be felt later on, but for now, Fed will allow markets to see a risk recovery. It could be weeks, it could be months, but I do not subscribe to the idea that the bear market is over (especially on longer time horizons later in 2023)
On Execution:
In my Part 1 Note, I purposely sent that note out PRE-FOMC to convey my thinking that at least for the time being, there’s no imminent rush to sell assets unless the 200 Moving Day Avg was breached in the 3930-3960 region. Given that this level was never breached, my plan kept me in the market. I don’t agree with the market’s reaction. But like I said, it’s not about my own view. It’s about how I transact in the context of my own view based on my plan (which I’ve provided to you). So far so good.
At this juncture, it’s a subjective call what you wish to do. I can’t advise on individual transactions, but here are the moving averages as of today.
The 200 Day Moving Avg still sits at 3960.
If you believe the 200DMA gives up too much of the recent gains, the 20 Day Moving Average sits at 4006.
If you want a REALLY tight stop, then the 5 Day Moving Average currently is at 4090.
The reason I share these objective moving averages is to give you a big picture overview of the many options you can choose. Obviously, you risk getting stopped out sooner if you want more security/higher certainty.
At the same time, you risk giving back a lot of gains if you wait for the 200 Day Moving Average.
It all depends on your timeframe, your willingness to hold, and your personal outlook.
I share these objective levels to let you know that I typically transact when there’s a specific reference point.
I transact like a robot, funny as it sounds. I try to compress emotions as much as possible, and simply follow a prescribed plan.
I can give you the tools and the data. But I cannot transact for you and guide on individual trades (kindly please do not msg me with individual buys/sells ideas - I can’t talk about that - I’ll get in trouble, please understand. I don’t know your personal situation.)
Inter-Market Data (Outside of Equities in order to inform an opinion on Equities)
Currency: The Dollar on the Daily Timeframe
Commentary: As I had believed, the Dollar’s losses were temporary and it’s now going up in conjunction with the SPX.
If the Dollar (DXY) continues to make a sustained recovery, the markets will be begin a phase of approaching a near-term top.
Precious Metals: Gold on the Daily Timeframe.
Commentary: Gold is retracing quite heavily today despite yesterday’s “perceived” less-than-hawkish FOMC.
Gold’s longer-term uptrend is in tact, and I do now believe an allocation to Gold (at the right price) is a powerful way to reduce portfolio variance and beta.
In the near-term, Gold seems to have started a first phase of rolling over and there could be further downside ahead before a buy-point is reached. I generally think a mid 1700 level on Gold (now 1920 or so) is quite attractive for long-term investment in the GLD ETF.
Conclusions from Currency and Precious Metals Markets: They now disagree with the Dovish sentiment that many investors may come to believe and are offering diverging signals from SPY and QQQ. This leads me to believe that QQQ and SPY’s recent rally is driven by short-covering, momentum, and algorithmic trading.
On Individual Companies and their earnings implications: Meta (Weekly Timeframe)
Commentary: Meta is soaring after earnings. In my mind here’s the allocation of today’s gains (which are now at 25%+):
10-12% comes from the 40B Buyback. Pre-earnings META had a Market Cap of 450B. Now 500B. A 40B Buyback would reduce share count significantly, and also happened to be around 10% of yesterday’s market cap. For this reason, I rate 10-12% of today’s 25% rally to be attributed to Buybacks.
5-7% comes from Short Covering
5-7% comes from Better than Expected results.
Now for me personally, my small short on Meta is somewhat of a drag on my other long positioning. But it’s sized conservatively and very small (10 shares, 1% of Portfolio, short entry at 155), so I actually intend to keep the short position on.
If you’re a bull, I think this quarter vindicates Meta’s comeback and relieves a lot of stress from holding META over the past year. Congratulations if you’ve held on.
If you’re a bear, I don’t think you should be too concerned about the rally if you’re sized correctly. Just don’t add to any shorts. And simply hold the hedge. META is up 50% YTD in first 30 days of 2023 alone. A retracement is bound to happen upon any further upside, and closing out shorts can be done later, and doesn’t have to be today. The name trades at 24X Forward P/E.
More importantly than Meta itself, do Meta’s results indicate health in the advertising space?
No - not even close. Most top line performance numbers were weak even after Analyst cuts.
This is a powerful, vicious bear market rally driven largely by a monster Share Buyback (good job to Zuck). For most investors, my suggestion is to stay away from either a long or a short on Meta. This is now a contested name, and it’s better to seek names that do not have so much opinions being shared with great fervor.
I personally think this recovery is temporary and has limits closer to 200, but we’ll see what happens. Making single name calls is incredibly hard, so this is just my individual personal view on the name.
On the Market’s Biggest Test Yet: AAPL, AMZN, GOOG
The reason I want to share my opinion on these names Pre-earnings is so that we understand the setup into earnings.
Heading into this report, I shared favorable commentary (though not as direct/bold as I would have liked) on Amazon back in early January. AMZN is up significantly since.
Let’s talk about the AAPL/AMZN/GOOG setup.
On Amazon: The Market Likes Symmetry.
Commentary: Heading into earnings, Amazon’s technical picture has materialized with the symmetry rebound that I mentioned on January 5th.
Obviously, risk/reward with a 50% bounce from January and then a 76 Daily RSI makes me less enthusiastic about AMZN heading into earnings.
I think if AWS outperforms, we could see a 120 on the name. But with shares quite elevated, we do need to some type of maneuvering that adds to momentum (share buybacks, very strong performance, mgmt guidance).
Else, I do think retracing 100 is still possible.
Never trade stocks before earnings. I’m sharing these views so that you can understand the potential implications on SPY/QQQ in the days/weeks ahead.
On Apple: Trading at 70 Daily RSI just before earnings with high-end consumer and white collar worker recession
Commentary: I don’t have a strong view on Apple at the moment. Its technical picture on longer timeframes is balanced, but its valuation is quite demanding at these levels if the consumer faces a recession (my base case).
No position in Apple.
On Google: Trading at 70 RSI just before earnings with Meta’s enthusiasm carrying through to GOOG
On a fundamental/business perspective, I think Google has a better future than Meta over a 24 month period. Google’s ad products are simply superior and offer better ROAS (Return on Ad Spend) for most direct response advertisers.
I know this because I’ve advertised on both platforms (FB and GOOG) previously, and I think Google’s ad products (Search, Youtube, Retargeting) are much more effective.
Fundamentals aside, heading into earnings, GOOG also trades at 70 Daily RSI.
Bottom Line:
We have 3 Tech Titans GOOG, AMZN, and AAPL all trading at 70 Daily RSIs (70 is the Overbought Level) ahead of earnings tonight. This is on top of the historic short-covering rally we have seen over the past 30 days.
One of three things can happen this evening:
They all maneuver to beat estimates and guidance, and this sends the SPX well over 4200 tomorrow.
They all disappoint, and their disappointment marks a mega end to the FOMC FOMO. From here, the market marks a significant top. And it will be VERY difficult for investors to sell at anything close to today’s prices.
They come in mixed, in which case SPX and QQQ momentum may continue where it’s going in the near-term (which is higher).
As of this writing, SPY and QQQ also both trade at 70+ Daily RSI.
The recipe for massive moves is in motion, and I am quite nervous as a Bull.
Tonight, we may have the complete termination of Bears or the new beginning of their raging Wrath.
What I am personally considering in my tactical portfolio: Scale all positions lower (both shorts and longs) and minimize exposure to what could be extreme fluctuations in the market to minimize portfolio variance.
What I am doing in my 401K (long-term account): Nothing. Doing nothing.
If you are a long-term investor, there is absolutely nothing to do at the moment. Continue the timeless approach of DCA-ing at scheduled intervals and at levels that offer better risk/reward.
If you are a trader, big moves are about to be made.
Stay Safe,
Larry
P.S. - Bi-Weekly Dashboards and Monthly Slide Decks are now in Dropbox.
Tell Friends and Family. I want them to not get caught up in speculative fever at the wrong time.
Hi Larry, what do you think about buying gold for this year where stocks are at such high price?
Thank you.
Christy