Marty Time
"I WANT TO BE SWIMMING IN ORANGE JUICE"
- Marty Stephens, 1999.
For those old enough to remember the late 90's CBC show "Traders", this line will be familiar. For those who missed it, too bad, it was a classic. The go-go markets of that era caught the attention of the mainstream media. Even the left-leaning CBC paid attention, creating a hour-long show about Bay Street. "Traders" - the show - became a cult hit. It personified the roaring bull markets and star-system based investment banks of those heady times.
In one episode, Marty, the Mike Wekerle-style trader played brilliantly by Patrick McKenna, was effusively ranting about Orange Juice futures. His role as head trader allowed him to position the firm's capital in speculative trades on a whim. I can relate to that now. After the trade deal was announced last week, I had one thought.
I WANT TO BE SWIMMING IN COPPER !!
Copper has been shorted heavily this year as financial speculators have piled up negative bets against the slowing global economy. The erratic headline risks of the China-U.S. trade dispute and Brexit that drove bonds and bond-like equities to all-time highs, have had negative effects on hard assets and cyclical resource equities. These assets are too cheap now. Bonds and their dividend paying equity surrogates are expensive and crowded, vulnerable to a violent unwinding. That capital, once released will slosh over to the unloved cyclical assets. I smell a trade.
Check out this chart;
Futures Net Positions
Notice how the green shaded area labelled "Net Large Specs Positions" became increasingly negative during the period of uncertainty generated by the U.S. - China trade dispute.
Shorts are now covering quickly as the Trumpster turns his attention to more pressing domestic matters - like keeping his job.
Seasonality is similarly positive into the next six months.
The unwinding of bearish sentiment explains the rally in the red metal so far. Now that the trade issues have been temporarily neutered as a sentiment driver, the bears have lost their favourite whipping boy - the global growth slowdown. Although the economic turnaround should be glacial, a change of sign from negative to positive is more likely as we lap the weak 2019 numbers over the next six months.That is all that is needed to sustain the rally given the bearishly skewed positioning in most portfolios.
Any market is that has run so quickly is obviously vulnerable to a "sell the news" pullback. The GBP bulls are realizing that today. But as calls for a correction grew louder last week, many investors held off fully committing to the cyclical equity case. FOMO drove the rally. As the rally progressed, people acted on their relief, buying indiscriminately. The move up has been broad-based, not surprising given the popularity of passive indexing. But there has also been a reluctance to give up on their tried and true favourites like Apple and Microsoft. The rotation to value is still ahead of us. We have seen this trade before on two other occasions, 2012 and 2016. These periods coincided with reflation efforts from central banks, similar to the one now ongoing.
iShares Value ETF/Growth ETF
As the data gets better - did you see the U.S. Housing and Factory Order numbers this morning? - the case for assets that have torque to a rising economy will strengthen. The durability of this improvement is highly variable, given the policy volatility inherent in our increasingly balkanized world.
And we have yet to see a meaningful fiscal response from Germany. Their phobia about deficit spending is a complete outlier in the midst of government budget profligacy that is increasingly the norm elsewhere. Given the manufacturing recession that exists in Europe, calls for a stimulative fiscal response are growing. That would be copper bullish.
Headline risks still have the potential to create volatility. The random walk is still alive and well in financial markets. Selection will be more and more critical as we get deeper into the risk-on cycle. I just feel the balance of risks for the market argue for a bullish stance until the tone from central bankers changes. Given the experience of 2018, they are reluctant to act too quickly. They want the economy to grow above potential and will keep the pot boiling until they do.
By that time, the leverage in the system will be extreme and they may have their hands forced. With debt already at record levels as a percent of GDP, I worry about any increase in debt service costs. Leverage hasn't mattered - yet. But when servicing costs are forced higher by a tightening move from a 'behind the curve' Fed, it could get ugly quick. The potential of another debt crisis down the road is increasing.
Meantime, Marty and the boys will trade like it's 1999. Keep swimming for now. The Gorilla Hill trade is in full swing. But remember, it is only a trade. Just don't get greedy.
Risk Model: 5/5 - Risk On
There has been a measured tone to the reaction to the twin bear killing events of the past weeks - the BoJo victory and the Trump Truce. The AAII sentiment is elevated but not extreme (below). It usually cycles between .75 and 2.0 so here it is neutral.
Copper/Gold has a long way to go until it fully recovers from the 2019 collapse.
Volatility has collapsed yet again, giving investors access to cheap insurance. Anything below 15 seems cheap as I don't expect the compressed levels of 2017 to re-emerge. Given the poor liquidity and potential headline risks over the holidays, I'm buying some protection here ($TVX).
