Sell Signal

I'm out.

This market is in trouble and relying on President Tin Foil Hat to get us out of it is hardly a comforting strategy.

Since December's dry-heave low, it has been a frustrating rally, one that was solely based on hope over reason. Earnings may have stabilized, but adding 3 points to the PE multiple, simply on a FED pause, seemed to me dangerously overdone.

Since the Christmas eve panic, FOMO and TINA have been formidable opponents for the Bears. That type of herd mentality thinking rarely makes for a solid investment thesis. Now that global growth is being challenged by renewed tariff brinksmanship, the uncertainty levels have risen dramatically.

We had been guilty of hearing what we wanted to hear. We blithely presumed a deal that didn't actually materialize. The resultant triumph of hope over reason caused markets to become vulnerable.

Then a tweet that changed the world dropped. "Tariffs are back on!"

My short term model had been brave enough to go with the herd recently. But now it has gone decisively negative.

We made money in Q1, but it never really felt good. It felt like cheap, sleazy investing. It was a half-hearted bull for most of February through April. "Oh, if we could just get a piece of the UBER IPO things would be great!"

Oops! The 'riders' on the deal are now left stranded at the side of the road.

Is it all over? Should we get out of the market for good? Is the bull heading for the abattoir?

Let's go to the tape.

The 3 Month Vix, the VXV index (below) moved decisively above the 100 day moving average, giving a sell signal just like it did in October. I discussed the binary nature of this outcome two weeks ago, saying:

"The benign volatility environment is disconcerting for the bearishly inclined among us. I note the 3 month CBOE Volatility gauge has declined to levels last seen prior to last year's summer of complacency. We remember what followed from that pollyanna period."

Volatility

Ominously, the Copper/Gold indicator flashed a major 'risk off' signal prior to Trump's tweeted trade turnoff. This is the most damming evidence of the persistence of global economic deceleration. Ominously, haven beneficiaries such as bonds, gold and now bitcoin are confirming a dangerous failure on the part of current policy to generate self-sustaining global growth.

Copper/ Gold Ratio

The report of AAII sentiment this week (below) will likely see a pullback of the ebullient levels seen this past 3 months, further reinforcing the sell signal. Look for a ratio below 1.2:1 for confirmation from this negative sentiment indicator. Investors who have been trained to buy the dip beware, you are in a crowded bus.

AAII Sentiment

The XIU RSI Index, after being mostly in overbought territory for 3 months, is on its way to getting oversold below the lower bound. The oversold level is still pending, but should come quickly. "Up the escalator, down the elevator" - as always.

Finally, the 200 day ma (blue line around 23.4) is desperate to be tested. Like prior corrective phases, a level around 22 - 22.50 would be likely support. Lots of room for this chart to correct still.

XIU RSI and 200 DMA

Why am I bearish? It has more than just Trump and Xi's trade talk uncertainty. I have been uncomfortable with this entire cycle. Monetary stimulus seems to be allocating capital to the wrong places. Since the beginning, the valuation expansion of safe assets has reached excessive levels. Not enough of the money has reached the real, productive economy.

The persistent dominance of growth over value is evidence that too much money is chasing too few goods. Except those 'goods' are now private equity unicorns. This week saw the demise of previously bullet-proof valuation expansion of UBER. The emperor of tech has no clothes. Now what?

The failure of markets to broaden out to include a period of 'value' based leadership has been the achilles heel of this market - just as it was last year. Simply pushing up valuations without a true re-acceleration from global growth is a recipe for disaster.

The FED has more than done its part by stopping short of a recession-inducing over-tightening. But it doesn't seem like that's enough. The inversion of the front end of the yield curve speaks volumes about the reaction function of the economy to what seemed like a simple 'normalization' of the U.S. rate structure. The Fed Futures curve is predicting a rate cut in the next 12 months that the FED still is resisting. The slow-footed FED governors just don't want to believe the market yet. They will eventually.

And after years of monetary manipulation doing all the heavy lifting, it is now the politician's turn to stimulate the economy growth-promoting fiscal and trade policies. Instead we are getting policy disfunction on a grand scale. Given the current state of world leadership, with their highly polarized entrenched positions, I wasn't expecting much anyway.

I'll give Trump some credit here. He is actually sticking to his guns and trying to goad China into a deal that they don't want. It don't think it will work, but at least the guy is trying. Unwinding policies put in place by Henry Kissinger in the 70's is a tough ask even for Mr. Art of the Deal.

Last year, Xi had been playing Trump for a lightweight, probably hoping that a weak stock market would force him to make a bad deal. But after the Powell 'patience pivot' jacked markets back up, the advantage swung to Trump. Reluctantly Xi went to plan 'B' and reneged on the deal. He can't reverse that easily.

Although notionally China has more to lose, it can still muddle through the imposition of tariffs a bit longer. They have two important weapons left to deploy. Currency devaluation is a formidable strategy in all trade wars. The Renminbi is now falling in lockstep with the tariffs. Look for a 7 handle before this is all over.

Also, they could sell their large holdings of U.S. bonds. A boycott of Treasury auctions is weapon that Japan used in 1987. I seem to remember a bit of a bad market that year. Repatriating a trillion dollars to help prop up the Chinese economy makes sense to me. That could further roil the capital markets that Trump relies on to stroke his fragile ego and measure his popularity. Xi would be hitting him where it hurts most.

We are now fully engaged in World War III - only an economic one. It is being fought by Chinese exporters, U.S. consumers, stock and FX traders, and a host of other economic players that don't even know what they are fighting for. It is also getting very messy, very quickly. Just ask Meng Wanzhou. Xi cannot be seen to sucking up to a tin foil hat buffoon like Trump. I can't see this going smoothly.

Also, Trump needs a new piñata to beat now that election cycle is in full swing. The Democrats, meanwhile, are fumbling the ball on the 10 yard line by fielding too many candidates to provide a credible threat just yet. Trump, in deflecting attention from domestic issues towards China, is getting all the airtime. The Dems lose on this issue by default.

The subdued level of the retaliatory Chinese tariffs announced on the weekend (combined with the time honored 'Tuesday at 11' effect) should promote a bottom fish bounce this week that will provide a good entry point for short selling. Crowded trades in technology look like good candidates.

Sell 'em if ya got 'em.

Risk Model: 2/5 - Risk Off

The high level of sentiment reading from AAII last week was surprisingly. Bullish sentiment rose after the news of a renewed trade spat. Talk about complacency! That can't last.

The other risk-on element is the position of the market relative to the 200 dma. This is the slowest moving of the model components. If it drops below the 95% lower bound, it will join the other indicators with a sell rating.