The Six Flags are Anxiety, Denial, Fear, Desperation, Panic, and Capitulation.
Back in June we published a piece called “Next Stop: Euphoria” in which we discussed the cycle of investor emotions, and argued that we were rapidly rounding the bases of excitement and thrill.
It just felt that we were closing in rapidly on a euphoric stage, one where investors may have been overlooking the risks that existed in the US equity markets. It felt like the “all clear” was being sounded from every channel, website, and penny stock newsletter. Renewed faith in the Fed’s ability to curtail QE successfully, record Corporate Buybacks and Mergers, an increased presence of Activist Investors, and the brightening employment picture were all telling us “Everything is fine, just keep buying stocks….”
Things were different four months ago—we hadn’t felt anything really resembling a true correction in over two years and Wall Street forecasters raising their 2014 year-end S&P targets felt more like keeping up with the Joneses.
“I’ll see your 2,000 and raise you by 250!”
The volatility (VIX) index hit a five-year low in June and the only question about bonds was why anyone should buy them.
Yes, things were different then. But how different were they really? On June 13 the S&P 500 was at 1936—just 3.8% higher than it closed Wednesday—and interest rates were actually higher. Substantially so, in fact, despite the Fed having had a more active role in their manipulation downward. The 10-year Treasury was at 2.60% in mid-June, which is 25% higher than today’s 2.09%.
Things really were exciting. Friends of mine were sending me emails every day about their day trading efforts—literally picking stocks whose names they couldn’t properly pronounce and buying call options. And making money with them! That is not a rational market environment. Nor did it last long…
The last four weeks it feels like the emotional train whose conductor is the stock market ran past several stops without even slowing down.
Anxiety. Denial. Fear. Desperation. Panic.
Is it possible we saw all five of these—and in that order!—just this week? Anxiety seemed to form last week when we had pulled back far enough from our highs that they likely couldn’t be recaptured by just one good day in the market. I’d say that was one week ago today.
Then the denial of wishing you had more fixed income exposure. Wishing you had taken more profits. Wishing you had trusted your gut. Wishing….
Okay, what do we do now?? We have to do SOMETHING!!!
No. Not yet we don’t.
Maybe we should sell everything. Do you think we should sell everything??
No. Trust me, you don’t want to do that. We can take a few losses for tax purposes, take profits on some of our long treasury holdings and other hedges, and slowly buy some more of what we already own that’s being unfairly punished.
The 10 year Treasury did what??? It’s below 2%? It was at 3% when the Fed started this tapering business! OMG get me out of this market. Get me OUT!!!
Other advisors will likely relate to the dynamic above. Clients will know it’s true, and who can blame them? It all happened so fast. But it always does. You cannot panic, even though that’s exactly what the headlines are calling for. Those who panic are merely gifting their shares to those who don’t, at prices substantially below market value.
So low interest rates are viewed as a positive as long as it’s Fed-induced. If actual people and institutions are willing to buy US Treasuries at these levels, it must be a bad sign. What’s amazing is that the Fed may have created an environment where it can liquidate its balance sheet by selling its bond holdings right back into the market—demand is up and they would have an enormous profit (as Treasuries have rallied 20% this year alone).
So what’s driving the selloff?
The US Dollar has not only strengthened but other currencies have weakened against it, in some cases dramatically. As we noted here more than once, the world’s most used commodity—oil—is priced in USD. Any foreign nations that use oil (all of them) and non-USD currency (all of them) are having to convert their depreciating currencies to dollars to meet their energy needs. There aren’t too many Tesla’s in Eastern Europe. That, combined with a glut of oil supply courtesy Saudi Arabian production increases, and we have plunging prices for oil and gas.
This sounds like a good thing at first—US consumers spending less at the pump means they will have more to spend elsewhere. But we also have an energy renaissance attempting to spread its wings in this country. Smaller producers cannot turn a profit with oil selling at such low levels. If oil stays at these depressed levels, many players will be pushed out. The reason this is an incredibly unlikely scenario is because of how many key players have a vested interest in higher oil prices: Russia, the US oil & gas industry, and all Middle Eastern oil exporters, to name a few.
Amidst the energy market carnage one of our core holdings — the Master Limited Partnerships (represented below by the index, AMJ) — got absolutely creamed. Almost 20% from top to bottom. There wasn’t a whole lot of news but it seemed like forced selling (fund redemptions) followed by panic selling, followed by margin calls. The space bottomed yesterday morning. We added substantively to positions using cash and proceeds from cashing out our Long Treasury position/hedge (TLT).
And, yes, we have an Ebola scare. I don’t mean to sound flip, but with all the information we have at this point—simply not a market mover.
Take it from the top.
So we are about 8% from our most recent high, whether using the Dow Jones Industrial Average (DJIA) or the S&P 500. It feels worse to some because select sectors have gotten decimated—energy, technology, biotech, and pretty much anything that tends to be purchased on margin.
Some are calling it healthy. Some are calling it a harbinger. Some are calling it an opportunity. Can it be none of these things? Or all of them?
Revisiting the chart below—four months ago it felt like we were pre-euphoric. With not that much having changed in terms of the data that “matters,” where does it feel like we are now?
Did capitulation happen yesterday morning? It sure felt like it in the bond market. And that may, in fact, have paved the way for the next leg up in equities….
If you have questions or feel we might be able to help you, please don’t hesitate to give us a call.
Adam B. Scott
Argyle Capital Partners, LLC
10100 Santa Monica Blvd, #300
Los Angeles, CA 90067
(310) 772-2201 – Main
Adam Scott’s profile on TheStreet.com can be found here.