Blue Light Special

At the risk of being instantly wrong, let me restate my position that today's election result is relatively unimportant to the future course of the market. It looks like a Blue Wave victory is less likely and a split pot - the Democrats take the White House but the GOP keeps the Senate, is a distinct possibility. Sort of a 'Blue Light' wave. If that happens, we're in for an impasse. But I still don't think that derails the market for long. Stocks would go on sale at K-Mart if that happens.

All things point in the same direction for risk assets. Yield curves, real rates, equity risk premia, stable 10-year bond yields, unmoved credit spreads and relatively subdued volatility (especially the term structure of volatility) are all supportive. And most importantly, the narrative of a positive policy backdrop combined with a gradually improving global economy in the 12-18 month time frame is intact, no matter who wins the U.S. presidency today.

The big delta is in sentiment. The Work-From-Home trade peaked in July and has undergone a correction ever since. Not coincidentally, Direxions, the ETF provider, recently launched a product to 'play' the trend right at the top. The narrative has changed and this correction has revealed its new story. To quote Slick Willy's strategist Jame Carville, 'It's the economy stupid'.

So forget what I've been saying, let's let the market speak. And it's starting to yell now.

The Robinhood crowd is learning the hard way that chasing momentum is a time-limited strategy. Getting on board the hot trade was seen as a free lunch until it all came crashing down. A serious rotation of leadership has begun. The Newby investor crowd is playing too much Fortnite and not enough Freeport.

And 'Zoom' did just that to mo-mo investors last week, only - not the way they thought. I see a gap to fill around $325 and the volume line is horrible. It's only a matter of time before Apple re-tools Facetime to effectively compete with them.

And speaking of Freeport, just look at the credentialed move in this puppy since the bottom! A three-bagger in price and relative-strength double as well! I'd like to see more volume (lower panel) but it should come with the rotation out of a crowded 'COVID beneficiary' trade that is currently unravelling.

So what's the market actually saying here? The same thing as the bond market and the copper/gold ratio - the economy is improving and the leadership change is valid. Because the valuation levels of the COVID beneficiary stocks got so far ahead of themselves they are the stocks most vulnerable to profit-taking. The strength in markets yesterday is a 'tell' on the leadership change now underway. The ISM report was a blow-out yesterday. China is back at pre-COVID levels. The second/third wave effects of a shutdown, while painful, are by definition temporary. The cyclical trade is about to become en fuego!

Remember, stocks are a monetary phenomenon, and there is free money is everywhere. The stock market is now acting like a zero-coupon bond in a bull flattening rally. With a discount rate sub 1%, the duration of an asset works in your favour, and stocks are the longest duration asset I know.

The short-termism surrounding the recent election sell-off, while predictable, is a gift. The longer-term recovery scenario has only been delayed by the pre-election jitters and the highly telegraphed second wave shutdown. Bears - do any of you really think that 12 months from today we will still be as worried about the effects on the economy of a then treatable virus? There may be something else to worry about, but 2020 will be firmly in the rear-view mirror. I'm discounting cash flows from 2022 now.

The primary trend is up. The breadth is expanding. There is cash on the sidelines, and there is a whole group of investors cowering in a corner right now waiting for a political event that is wildly over-emphasized as a market driver. If we get a solid Biden win, back up the truck! If it's a Blue Light Special ... back up the truck!

Oh, and if Trump wins, back up the truck! You know...., this one...

Risk Model: 3/5 - Risk On

I know I talk about it ad nauseam but the Copper/Gold ratio works as an indicator because of a linkage with monetary policy impulses. Monetary easings provide the necessary fuel for economic cycles in a predictable pattern. Below I have shown a model of cycles, overlaying the Copper/Gold ratio (in Red). It seems simple, but it matches what Central Banks have done to 'manage' the economy since the GFC. Every four years or so, there has been a response in this ratio to a significant monetary stimulus, either from the U.S. Fed, the ECB and/or the PBOC. March 2020 saw the mother of all easing cycles. What's your bet about the next 3 1/2 years?

My bet is $5 copper.

For all you volatility watchers, I'm including an update of the chart from last week. A 'backwardation' in implied volatility (below 1 - bottom panel) has been coincident with short term market lows.