Seventh Inning Stretch

I don't know about you, but I feel like getting out of my seat and stretching a bit - a seventh inning stretch.

Ray Dalio, the Bridgewater hedge fund head honcho, this morning described the market as being 'in the seventh inning'. I believe him. The problem is, its been there for months. Its like a 'bat-around' inning where the bulls have been beating up on bad pitching from the bears since February. I'm tired of watching.

The luxury of my current position, a retired guy with not much on his plate, is that I can easily take a break from worrying about the market by selling out.

Unfortunately it doesn't work that way for most long only, active investment managers.

In my working days, when the markets got dicey, I felt trapped. In my pension accounts, the option to sell was not available. The mantra was 'don't market time your portfolio'. Clients expect you to stay with your style no matter what the market is doing.

I have no interest in the current U.S. market, as it gropes its way higher on the back of tax-induced earnings growth, buy-backs and FOMO thinking. Nobody seems to be selling. But market internals are deteriorating quickly. There isn't a lot of fresh buying going on either. Volume is speaking volumes about the lack of investor participation.

With all the talk of the financial crisis anniversary this week, there is a faint tinge of fear. Fear of the unknown. Fear of attack. Fear of the Lehman moment.

Irrational as these fears may be, the market moves on the expectations of others. And because of human behavioural bias, uncertainty creates negative expectations.

Yesterday's dead cat bounce faded badly as the focus on earnings is being replaced by an awakening of effects of deteriorating global growth. The liquidity squeeze is on. The S&P players have yet to come to terms with the fact they are standing alone in a weakening world tape.

That being said, I believe the that next market downturn will be a garden variety correction. No collapse, no blow-ups, just a good old fashioned correction. The only problem is in seeing what the catalyst could be. Sorry sports fans, I have no idea.

Today's NFIB data are resoundingly bullish, as the internationally sheltered U.S. small businesses blindly go ahead spending. They have been handed all the 'Trump' cards in this economy. Mostly immune to direct effects of trade policy and flush with IRS refunds, they believe that the future is all roses.

Not so for the multinational companies, the bulk of S&P market capitalization. They are losing more money on the currency translations from foreign operations every day and are in the gun sights of possible China trade retributions. And by driving Xi and Putin closer together, Trump has inadvertently created stronger economic adversaries for U.S. corporations.

More importantly, there is now a possible collapse of the intricate supply chains of the U.S. auto business on the rejection of Nafta and and impositions of tariffs on European imports. You can't say that won't happen, given how backed into a corner Trump is feeling after the 'Anonymous' op-ed. He loves to lash out when threatened.

As the tailwinds from monetary stimulus abate, only to be replaced by economic and geopolitical headwinds, its time to board-up the portfolio just in case a financial 'Florence' lands on your portfolio's shores.

Risk Model: 2/5 - Risk Off

The spike on volatility I warned you of last week has pushed the market into sell mode. The model was late but now is in synch with my view. The RSI for the XIU is currently below the 45 level, indicating a loss of momentum similar to the Emerging and Eurozone markets. The SPY stands alone now in positive territory.

The AAII Bull/Bear ratio has been wrong-footed this year, rallying after volatility drops and pulling back after the VIX spikes - inversely correlated. It seems the 'Home Gamers' are confused and consequently are highly reactionary to market gyrations. This reveals a flaw in the model. If two independent variables become highly correlated, the model loses its predictive validity. Its called "multicollinearity" and it isn't a good thing for model builders.

Perversely, in the face of a global growth slowdown, the Fed is now programmed into raising rates. With today's data they look increasingly 'behind the curve'. As much as he doesn't want to invert the curve, Powell won't be able to look through the sugar-coated, temporary tax relief induced data. A stronger pace of tightening is now increasingly likely.

The "Squeeze Play" (see Aug 7) is still on.