Friday, December 20, 2013

New Website Address

Dear Short Side of Long reader,

Over the recent months, Short Side of Long blog has experienced a few issues with spam to both my email as well as on the blog comments section. Also, to a degree blogger has reached its limits with what I would like to do with the page into the future. And while I am not an expert in this field, a friend has kindly advised me to recreate the whole thing from the scratch and help me setup a new website with an original domain name.

The new website address to visit is www.shortsideoflong.com

Bookmark it and pay us a visit. Over the coming weeks and months I will try to implement a lot of the new ideas and features on the website. At the same time, I understand that it is also important to keep majority of the old things which made investors all over the world visit the blog in the first place. I hope to see you at the new address!

Warmest of Regards,
Tiho

Wednesday, December 18, 2013

Make Sure You Own Gold!

Chart 1: Central banks have printed almost $5 trillion since 2007!
Source: McKinsey Research

As I was watching an interview with a wisest of investors, Mark Mobius (Chairman of Templeton Investments), one line stood out to me. Mr Mobius stated that global central banks have printed over 10 trillion dollars in the last 10 years. The chart above shows that 4 majors have done almost $5 trillion by themselves since the global finance crisis started in 2007. According to the chart, as of the 2nd quarter of this year, 4 major central banks in the West held a balance sheet equivalent to 24% of their respective economies.

Chart 2: Gold's performance in 2013 is the worst since 1981
Source: Short Side of Long

The asset that has benefited the most and protected investors from this outrages devaluation has been Gold. Over the last decade or so, Gold has been up every single year apart from 2013. As stated many times on this blog, only Nikkei has managed to do something similar into 1989, prior to crashing... so Gold had to correct and is currently doing so. And do not be surprised if the correction drags on for a few more months or quarters too.

But I urge all readers to make sure they own some Gold and continue to buy it at low prices, because central banks money printing exercise will eventually come home to roost! I expect Gold to make a new high above $2,000 per ounce and surprise all investors (including me) with the heights it eventually reaches.

Where Are All The Bears?

Every time I watch CNBC, Jim Cramer and the likes continue to discuss their bullish outlooks and more importantly how there is an abundance of bears out there, making them feel like wise contrarians. They usually say something along the lines of: "until bears give in, the bull market will rally ever higher."

I guess there is nothing like a bull market to make majority look intelligent and wise. When you are an optimist in a bull market, your timing works impeccably, the fundamentals you speak of are constantly reflected in price and majority of your estimated guesses ended up being corrected, or at least close to correct. Everyone praised everyone else and give each other a tap on the back.

However, all bull markets come to an end and this one will too... and most likely sooner rather than later. The notion that there is "plenty of cash on the sidelines" or that "majority of investors continue to dislike stocks" is absolute non sense and cannot be backed up by any data.

These are just common phrases found at or near a peak. You will notice they are totally opposite to the phrases we constantly heard throughout late 2008 and early 2009 (think "end of the world" phrases) which are usually at or near market troughs.

Chart 1: NYSE Margin Debt as a percentage of US GDP
Source: Ned Davis & Investech Research

The fact of the matter is that speculation is flying high these days. According to the NY Stock Exchange, hedge funds and other speculators have amassed super large positions in the stock market on a leverage margin. Relative to the overall US GDP, speculation on the NYSE alone has now exceeded 2%. It went higher then 2.5% during both the 2000 and 2007 peaks, so maybe we will climb higher for a few more months or so, but the higher we go the more dangerous the situation becomes.

Chart 2: The truth is... there aren't any bears left!
Source: Investor Intelligence

And as for calls regarding this rally as being "one of the most hated in the history of Wall Street"... well, once again this is just another one of those phrases that cannot be proved by any data. These phrases are usually said by those who are trying to self-reinforce their own investment thesis. The truth is, bearish sentiment has been hovering near some of the lowest levels and in recent weeks, there is essentially no more bears left, as we've reached the lowest reading since at least 1987 (just prior to the stock market crash).

Most hated rally?

I do not think so. Trusted indicators like Investor Intelligence show amazingly high readings of bulls vs bears spreads, ICI data shows weekly record inflows into stocks, margin debt above shows very high speculation and COT data shows continuously high exposure towards Nasdaq 100. The VIX  has barely exceeded 20 all year as complacency becomes the norm again.

One thing holding it all together right now is the global central bank devaluation programs (QEs), but the question is... how much of that has been discounted?

Tuesday, December 17, 2013

Geopolitical Tensions Rising

[Updated]

Chart 1: John Kerry Rejects Chinese Air Zone in China East Sea
Source: Bloomberg

Bloomberg writes:
Secretary of State John Kerry said U.S. military operations won’t be deterred by China’s air defense identification zone in the East China Sea and said there should be no moves to replicate the zone farther south.
China shouldn’t take unilateral actions similar to one it made Nov. 23, when it declared the defense zone that covers areas claimed by neighbors Japan and South Korea, Kerry told reporters yesterday during a visit to Hanoi. A U.S. Navy ship had a confrontation Dec. 5 with a Chinese military vessel in the South China Sea, where China has territorial disputes with Vietnam and the Philippines. 
“China’s announcement will not affect U.S. military operations in the region,” Kerry said, adding that the U.S. doesn’t recognize the defense area across a swath of the East China Sea. “The zone should not be implemented, and China should refrain from taking similar unilateral actions elsewhere, particularly in the South China Sea.”
Full article can be read here.

Chart 2: Geopolitical tensions are rising between Korea, Japan and China 
Source: NHK Online JP

Geopolitical tensions in Asian East China Sea continue to rise:
"South Korea has officially announced that it will expand its air defense identification zone, making it partially overlap those of Japan and China. South Korea's Defense Ministry said on Sunday that the expansion will go into effect on December 15th. 
The move comes after China established its air defense zone over a wide area of the East China Sea last month. The zone includes the Senkaku Islands, which are controlled by Japan and claimed by China and Taiwan. Seoul has been demanding that Beijing redraw the zone because it partially overlaps the one set by South Korea and includes a submerged rock called Ieodo claimed by both nations. The Chinese call the rock Suyan. 
The South Korean Defense Ministry said the expanded zone will also cover 2 small islands whose airspace partially overlaps Japan's defense zone. The ministry said it briefed Japan, the United States and China on the matter beforehand and the 3 countries suggested that the expansion is in line with international rules and is not an excessive measure."

Sunday, December 15, 2013

Update On Currencies

Chart 1: Apart from Yen, commodity currencies have under performed!
Source: Short Side of Long

As the year draws to a close, it is important for us to see how various currencies performed during the last 12 months. Apart from the Japanese Yen, surpassingly (for some) Aussie and Canadian Dollars have under-performed the rest of majors this year. These currencies have been some of the best performed since the start of the investment cycle in early 2009. The commodity currencies are currently under performing Euro currencies in a  big way, which looks to be a mean reversion of what we saw during 2011 and 2012 as the EU Crisis plagued some of these majors (Euro, Pound, Krona, Franc etc).

Chart 2: Commodity currencies performed superbly during 2000s
Source: Short Side of Long

However, over the long term, commodity currencies have performed superbly relative to the low interest rate yielding, money printing nations from Europe to US and Japan. In other words, currencies from Canadian to Norway and Australia have just about outperformed the G3 majors, which have been used as carry trade funding currencies for awhile now.

The question that now needs to be answered is whether or not these currencies have peaked out from a longer term perspective? After a decade long outperformance, could we see a major mean reversion? If they have, then a much bigger correction could occur in coming months and quarters, similar to what we saw during 2008 global financial crisis.

Chart 3 & 4: Hedge fund hold extreme bearish bets on Aussie & Loonie
Source: Short Side of Long

Having said that, I hope that traders do not blindly just bet against these currencies straight away. While I made it public that I shorted the Australian Dollar in November 2012 at around $1.05 vs USD (currently at 0.89 vs USD), what worries me is the huge short position built in a lot of these commodity currencies. I have not yet covered as I believe Aussie Dollar could make a lower low, but it is becoming a consensus trade. Personally, while I am not the greatest trader in the world, I never like being on the same side of the boat as majority of momentum players and dumb money herding!

Credit Markets Remain Calm (...For Now)

Chart 1 & 2: Credit markets remain calm with QE3 still in full force
Source: Scott Grannis Blog

Scott Grannis writes:
"Swap spreads have been very good leading and coincident indicators of the health of financial markets and the economy. U.S. swap spreads have been exceptionally low for the past year or so, a reflection of abundant liquidity and extremely low systemic risks. Eurozone swap spreads have been substantially higher, in contrast, reflecting ongoing problems with sovereign default risk. However, the recent decline in Eurozone swap spreads stands out: this is the lowest they've been since pre-recession days. Fundamentals in the Eurozone are likely improving significantly on the margin, and that is good news for just about everyone.  
Corporate credit spreads continue to decline, and that suggests that the outlook for the U.S. economy continues to improve. Spreads are still somewhat high relative to pre-recession periods, however, suggesting that the market is still somewhat cautious. The persistence of risk aversion in U.S. markets suggests that risk assets are not yet in a bubble."
Personally, I cannot agree with Scott apart from maybe on a short term basis. Long term investors should note that the best time to buy equities (or any major risk assets) is during times of panic as Swap spreads and Credit spreads blow out. The charts above show that good buying opportunities were in 2002, 2009 and 2011.

When financial conditions are calm, just as they are now, they might remain clam for awhile longer... but eventually the next crisis awaits us around the corner as fundamentals continue to deteriorate. We have not dealt with the major issue of debt, which is causing one crisis after another through the 2000s. Business cycle is on the longer side of the historical expansions and sooner rather than later another recession will occur.

Chart 3: Instead of de-leverging, credit is growing... so more pain is coming!
Source: Citigroup Research Team

While the credit markets are clam for now, the conditions show that we are reflecting the mega debt bubble further and further with central bank ZIRP policy that are misguided. Instead of dealing with debt, de-leverging has stopped thanks to Keynesian policies of kicking the can down the road. However, a huge mountain of debt has not disappeared and will eventually have to be either defaulted on or inflated away!

Saturday, December 14, 2013

Precious Metals Bear Markets



A friend sent me another video regarding Precious Metals historical bear markets, with a conclusion that we are getting closer and closer to the bottom.

Tuesday, December 10, 2013

Fund Managers View On Risk Events

Chart 1: What are the biggest risk to global economy right now?
Source: Merrill Lynch Fund Managers Survey

Interestingly out of 450 global fund managers, whom look after anywhere from $250 million towards $10 billion,  only about 2% think that inflation will occur as the major up and coming risk event. On the other hand, an overwhelming majority (30%), think that Chinese hard landing and commodity collapse is the biggest risk event out there. Commodity net weighting positions by money managers remain near all time lows, while bond net weightings are at record lows.

Fund Managers View On Taper

Chart 1: When is the money printing going to slow down?
Source: Merrill Lynch Fund Managers Survey

Where To Put Money To Work Right Now?

When analysing investment thesis of any kind, it is important to read into the general conditions. In other words, it is wise to study fundamentals, historic cycles and anticipate the way conditions could change into the future (third being the most important). But is also important to value assets and look for cheap bargains, whether its through metrical valuations or long term nominal / relative performance. 

Chart 1: One year performance shows western equities leading the gains
Source: Stock Charts (edited by Short Side of Long)

Today I will cover major global macro assets, both based on nominal and relative performance over 1, 3 and 5 year time frames. So... let us start with the last 12 months.

2013 has been the year of western equity outperformance. Plain and simple - whether it was US, EU or in particular Japan (not on the chart above), this is just about the only asst class that worked and worked well. Energy held its own, mainly due to Brent Crude contract and recovery in Natural Gas, while Junk Bonds did decently as well.

On the other hand, both the inflationary and deflationary assets really took a beating in 2013. Neither an inflationary take off or a deflationary busy occurred, disappointing both camps. When we look at the performance of base metals, agriculture, gold as the inflation bet; or Treasuries as the deflation side bets, both did not work with corrections between 15 to 30 percent. Gold suffered its worst annual loss in three decades.

Chart 2: Inflation assets like commodities have struggled over three years
Source: Stock Charts (edited by Short Side of Long)

Zooming out to the three year time frame, not surprisingly it is the US equities once again outperforming the overall global asset environment. Since October 2011, they have all but gone in a vertical fashion. However, for majority of 2011 and 2012, it was the Treasuries that outperformed just about all other assets due to deflation and systematic risk worries (and a slowdown in many parts of the world including EU & China).

The under performers were inflation assets specifically linked to slowing demand out of China. Base metals are down almost 40% over the last three years, which is a super bear market in its own right. Agriculture and Gold also struggled. Interestingly, emerging market equities are about flat to slightly down, similar to the performance over the last 12 months (first chart above). Neither here nor there really.

Chart 3: Equities outperform bonds and commodities over five years
Source: Stock Charts (edited by Short Side of Long)

Finally, we come towards a typical five year buy and hold period. Over the last five years, especially due to the beginning of the bull market in March 09, US equities have once again outperformed all other global asset classes. For so many analysts that keep saying that this is the most hated bull market of all time, I wonder who is actually hating it with all the buying towards new record highs?

While it was base metals and Gold during the early stages of the "reflation" polices in the aftermath of Lehman chaos, eventually the global slowdown outside of the US impacted majority of these assets. In the bond sector, high yielding junk bonds recovered superbly out of the 2009 recession and super high default rate.

EU equities are now trying to play catch up, as they were extreme under performers during the Eurozone Crisis in 2011/12. On the downside scales we also find that agriculture and base metals linger near the bottom (ad they peaked in 2011). Finally, due to the very low beta and sharp under performance in the early parts of recovery, US Treasury Long Bond is currently the only asset class that has not returned any gains (currently flat with total return adjusted for interest). Even the major losers like base metals are still up about 25% over the last half decade.

So... which asset class would you buy over the next 3 to 5 years? Momentum or value driven?
  • The ones that are currently hot in their uptrend like US equities, or the downtrending commodities? After all, every asset class has its 15 minutes to shine (outperform)...
  • When it comes to equities alone, would you play catch up with the EU recovery, stick with the hot uptrend in the US or perhaps bet on the resurgence of the sideways trending GEMs? 
  • Junk bonds have outperformed Treasuries by about 80 percentage points on the total return basis since the beginning of 2009, so is it time to play a contrarian with a view on narrowing spreads?

Sunday, December 8, 2013

Precious Metals COT Positioning

Since I have covered currency COT in the previous post, I thought it might be wise to cover the positioning of the futures traders in the precious metals sector. Instead of breaking up the charts for both metals, I will use the CEF ETF (Central Fund of Canada 50% Gold & 50% Silver holding) together with the cumulative commercial net long positions in both metals.

Chart 1: Speculators are shaken out of the Precious Metals positions
Source: Short Side of Long

Current total net long positioning in both metals is approaching the lows seen in June of this year. One of the interesting aspects of a long term chart, instead of a just a few years of data, is the fact that we can see investor sentiment over a multi decade time frame. We should be able to observe that during a bottoming out phase between 1997 and 2001 (a great time to buy PMs) majority of the hedge funds and other speculators held regular net short positions. Therefore, we have to assume that it might be possible for investors to panic yet again (if further price declines occur) and turn net short the metals.

Chart 2: Longs reduced near 08 lows, while shorts near record highs
Source: Short Side of Long

Breaking the chart above down into Gross Longs vs Gross Shorts, we can see that investors continue to cut their long exposure. From a contrary point of view, this is healthy for the metals, as lower exposure eventually bottoms the price and tends to increases buying power into the recovery.

Personally, I would like to see longs cut lower then they were during the 2008 correction, which means cumulative gross longs below 200,000 contracts. Will it happen? I am not sure. And as for net short positioning, not much needs to be said. Traders are certain precious metals bull market is over and are betting against it like a herd of sheep. Gross shorts are approaching record high number of contracts. From a contrary point of view, this is setting us up for another buying opportunity, as short squeeze will provide ample buying power, as prices bottom and reverse.

Currency COT Update

Chart 1: Short bets on the Japanese Yen are close to all time highs
Source: Short Side of Long

Two interesting charts from this weeks CFTC commitment of traders report. Japanese Yen continues to remain in a downtrend and is currently re-testing its recent panic low. Interestingly, the amount of bears (or should I say sharks) circling this currency is now close to all time highs. Over 16 billion dollars is outlaid towards net short position as of last Tuesday, in expectation that the currency will fall further. Recent fall in the Yen has helped the stock markets from US to Japan push towards new highs, as already discussed last month.

Chart 2: British Pound is breaking out from a long term range
Source: Short Side of Long

On the other hand, the situation in the British Pound is completely opposite. After being one of the most hated currencies in the world with continuously large short bets (even I shorted the currency from Sept 12 to March 13), the British Pound is breaking out technically of its 5 year consolidation. Majority of the investors are very bullish on the Pound (via sentiment surveys), however the net long positioning isn't extremely high.

Commodity Performance

Chart 1: Secular commodities bull market started between 1998 and 2001
Source: Short Side of Long

With every other blog on the internet continuously focusing on the the equity market (which has already performed exceptionally well over the last 1 year, 3 year and 5 year time frames), I continue to focus on where the long term bull market and value is - commodities.

However, not all commodities are equal, the same way that not all stocks are equal either. The chart above shows that various commodities are extremely undervalued in both nominal and inflation adjusted terms (not shown here), while other commodities are rather on the expensive side. Lets review the three main sectors:
  • The energy sector of the commodity bull market is the most expensive, excluding the Natural Gas story. Consider the fact that into the 2008 peak, Brent Crude Oil almost achieved a 15 times return from the lows in 1998. Similar story can be seen with other blends of Crude as well as Gasoline and Heating Oil too.
  • The agricultural sector of the commodity bull market is the cheapest by and large. Not only are majority of these agricultural commodities super cheap on nominal basis relative to their peaks throughout 1970s, but when adjusted for inflation... they are just ridiculously cheap to the point that they remain 80 to 90 percent from their real peaks. Enough said!
  • The metal sector of the commodity bull market is rather mixed. Tradable metal commodities on the Comex like Gold, Silver and Copper are cheaper then the energy sector, but more expensive then agricultural commodities. Certain other base metals like Nickel and Aluminium are even cheaper.
Fundamental analysis aside, I continue to favour commodities such as Sugar and Silver. Both have not reached all time new highs in nominal value for at least 3 decades (in the case of Sugar 4 decades now). When adjusted for inflation, both commodities are extremely cheap... ridiculously cheap.

Friday, December 6, 2013

Update On Volatility

Chart 1: Volatility Index continues to triangulate in a narrow range
Source: Short Side of Long

Volatility Index (VIX) has been in a downtrend of lower highs since October 2011. At the same time, S&P 500 has been in an uptrend with higher lows. VIX has now triangulated into a very very narrow range. The floor seems to be 12 on the downside, while the ceiling for now is a downtrend line seen in the chart above.

Chart 2: Skew Index shows options positioning towards sharp downside
Source: BarChart

It seems to me that the options traders are just waiting for the Federal Reserve to ounce the taper program (or any other catalyst) so that the volatility can return. Skew Index five day moving average is sitting at very lofty levels, indicating many traders see a potential for a sharp sell off. Such high readings were also seen during May 2011 and March 2012, right before the markets topped out. Both were quite sharp with a 19% and 10% downside respectively.

The VIX has been coiling for awhile now and most likely suffering from artificially surpassed pressure from the Federal Reserve's QE program.Therefore, there is always a chance that the spike could be higher than it normally would have been (interference in markets always has unintended consequences). Keep your eye out on the VIX index...