First, a note about 9/11. It appeared to me that the press seemed to ignore it this year. The Wall Street Journal ran one small article on Saturday. That’s it. This is a big deal, a seismic event in our nation, and we get, just 14 years later, almost nothing on it. The New York Times continues to make its rememberances available online, which is very nice. I’m sure next year, being the 15th anniversary, there will be more coverage, but I for one was very disappointed that it appears that the events of that day seem to already be fading away. That’s just wrong. Now, as someone that used to work in the World Trade Center and lost many friends that day, I’m sensitive to the issue. But still, I think the dearth of coverage in the press was pretty sad. If you want to read some of the profiles of my former co-workers at KBW who died that day, you can go to their website here.
On to the markets…
It vexes me. I'm terribly vexed. – Commodus, Gladiator
This is Fed week. As much as I want to talk about stocks and what is going right or wrong for individual companies, the reality is that right now, most of that doesn’t really matter. What will be moving stock prices for the next few weeks is all macro. The Fed, and how the rest of the world reacts to its actions, is what matters unfortunately.
David Tepper gave a very lengthy and interesting interview on CNBC last week. I highly recommend looking it up online and watching it. Mr. Tepper has an excellent long-term track record, and he’s also able to communicate simply and clearly. A few of his comments captured the angst many investors are feeling today.
Teppper said “there are times to make money and times to not lose money. Which one do you think we are in now?... Right, don’t lose money times.” He mentioned he has a fairly low net exposure to stocks, which is the same position my fund is in – we have longs and shorts, but our hedged net is zero. Indexers and mutual fund relative-performance-game players don’t really care about making money or losing money – they just want to beat their peer group, or more cynically, just be in the middle of the pack. Then they can let their marketing departments take over. But if you are in the business of thinking about capital preservation, in the business of generating absolute, not relative, performance, then you need to figure out what kind of time it is. And right now, I think we’re in a don’t lose money time.
Tepper also commented on the market’s recent increase in volatility. Volatility was very low for a very long time because the flow of money was moving in one direction (lower rates, lots of global liquidity), and now that river is going to run into resistance, some flows heading into the other direction (higher rates, capital outflow from emerging markets). When you get flows that run into each other, like a river entering the ocean, you get waves. That’s what we’re getting now. His conclusion: this volatility is normal, to be expected, and will be here for awhile, so get used to it.
That conclusion seemed fine when I listened to it – it made sense, and didn’t seem like a big deal. I personally like higher volatility, as it creates more opportunities for mis-priced stocks. But then the Bank for International Settlements (BIS) released its quarterly review. It was pretty eye-opening, and made this recent volatility sound like a precursor to something much bigger.
There was a dream that was Rome. You could only whisper it. Anything more than a whisper and it would vanish, it was so fragile. Marcus Aurelius, Gladiator
The BIS is basically the central bank of central banks, and Claudio Borio, head of its Monetary and Economic Department, said the following in a presentation on the latest review:
“This is…a world in which interest rates have been extraordinarily low for exceptionally long and in which financial markets have worryingly come to depend on central banks’ every word and deed, in turn complicating the needed policy normalization.”
“It is unrealistic and dangerous to expect that monetary policy can cure all the global economy’s ills.”
“We are not seeing isolated tremors, but the release of pressure that has gradually accumulated over the years along major faultlines.” Source: Financial Times
That got my attention. In a recent letter we mentioned that the U.S. economy is clearly strong enough to handle higher rates, so why is the Fed so afraid to do so? What do they know that we don’t? Apparently, they are worried about their tiny, irrelevant 25 basis point hike triggering an earthquake, that the pressures and imbalances in emerging markets will unleash a disaster that it can’t contain. And if, as BIS states above, we are seeing “the release of pressure” in an increasingly interconnected world, does delaying this release help anything? Will these pressures dissipate with time, or will they just remain hidden below the surface, ready to rear their ugly heads any time the Fed tries to raise rates in the future? I think that time will not help, that the dollar denominated loans that companies in emerging markets are holding will not become easier to pay back later. The odds of the currencies of these countries meaningfully appreciating against the dollar long-term are low, so the repayment burden will continue to increase over time. Which is why I think it’s better we raise rates here in the U.S. while our economy is still relatively strong – waiting is only likely to lead to bigger problems for emerging markets down the road.
"They lied when they told me he was dead. If they lied, how can they respect me. If they don't respect me, how can they love me?" Commodus, Gladiator
The Fed wants to be loved. And that is a problem. Personally, I’d be much more comfortable with a Fed that didn’t so obviously care about being loved. It wants to be loved by everyone - by our bond markets, stock markets, foreign markets, and everyone else. The Fed should do what it thinks is right, not what it thinks will be popular. Then it would earn our respect.
This is a weird moment in time we find ourselves in, a time when the Fed focuses more on investor expectations and financial market reactions then on the impact of their actions on the real economy. We need to get past this desire to be loved that seems to be driving the Fed’s decision making so that the real economy can expand at a brisker pace. Velocity of money is at all-time lows, and the only thing that is going to get it moving again is higher rates, which will make banks much more willing to lend. Until then, we’ll be stuck in this “ok” economy, where things are neither really bad nor really good, and everyone genuflects before the almighty central banks, who in turn genuflect before financial markets. This is a weird time, and it’s a time to focus on not losing money.
This week’s Trading Rules:
Last week the market rose the most in 6 months, which was surprising not because it rose, but because a 2.3% increase was the largest in 6 months. We really were in a low vol world… The market’s been coloring within the lines. This week’s trading levels for the SPY are:
Support: 192, 188/189, then 183.50/184.
Resistance: a lot at 197, 198, then 201 and 205.
Positions: Long and short U.S. stocks and options, Long SPY Puts.
Robert Baron at BTIG has been spot on with his trading calls lately. He has been sending a regular chart that I am copying below. It overlays today’s market with the fall of 2011, when the U.S.’s debt was (foolishly) downgraded. That was also a time of concern about linkages, pressures in markets, and how these macro factors would impact the real economy. The correlation is fairly amazing. Check it out:
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Miller’s Market Musings is a free weekly market commentary written by Jeffrey Miller, who has been managing money through various market environments for over 20 years. You can subscribe here.