Diary of a Financier

Of risk & rates: Dead horse edition

In Capital Markets on Mon 24 Jun 2013 at 21:21

Markets got clobbered again today, so here’s my update. (I can’t promise to keep these coming if markets continue trading so fast and wild.)

Monday, June 24, 2013:

$SPY -1.26% @ 157.06 (Low 155.73)
$AGG -0.40% @ 106.18 (Low 105.82)
$TNX +34bps @ 2.548 (High 2.657)
$EFA -1.57%
$EEM -2.03%

At the open, SPY took the handoff from a -1% overnight futures session and ran immediately lower to -2.1%. It collided with my $156 first support, but I wasn’t roused until seeing indicators across multiple intraday fractals signal bull divergence near mid-morning. The 1-minute chart hit a double bottom with 2x bull divergence; 15-minute flashed an even longer term 2x bull divergence; and 30-minute stochastic had entered oversold territory. In aggregate, that all affirmed an imminent bottom:

SPY 1/15/30-min

SPY 1/15/30-min

Indeed the bottom was there, as broad indices rallied back to almost flat by mid-afternoon. Shorter term intraday fractals subsequently grew overbought, with 1-min bear divergence sending a rounded top into a leak lower by the close. More importantly, the bull divergence in 15 and 30-minute charts remains intact.

~~~~

So where to from here? Last night, I mentioned the binary outcome for equities:

“We can buy this week’s reaction: either SPY moves sideways or [preferably] upwards to recapture the daily bull flag that had developed over the last 1½ months with bull divergence, or SPY slides to $156 support in a -7.7% total drawdown before a technical bounce.”

We got the latter case, both a slide to $156 and the technical bounce. I said this was not the preferable outcome because I extrapolated the indicators and pricetrend to plan for this scenario, and mathematically there really weren’t sustainable buy signals manifest by this point in the progression (as the charts now reflect in real time). Plus, the daily bull flag setup no longer exists after yet another outside day, so we can’t rely on any classical patterns to affirm an immediate bull reversal. Those are the two prominent reasons why I have not bought this double-dip, yet.

When will I buy? I can only envision the setup within the context of what the market has given me. First, I want to see those 2x bull divergences in 15 and 30-minutes fractals sustain one more pass lower in SPY. (3x divergences are among indicators’ strongest conviction signals.) Thereafter, it’s conceivable that we’d get a follow-through in the daily chart, which is growing really oversold with a stochastic under 13%K. If everything in that sequence falls into place, the weekly chart’s stochastic (40%K) should bottom with a 30-handle now that MACD has crossed under its signal and an MFI collapse manifests a purge—all in accordance with the 2007 analogue. Such coordination would give me a high conviction buy signal.

~~~~

Interest rates are the nexus of all market talk recently. A look at the 10y Treasury rate ($TNX) shows overbought daily and weekly charts, wherein today’s dark candle looks like a feeble bull trap after attempting to breakout above an intermediate term falling wedge’s trendline resistance. At the same time, longer term fractals all maintain an overtly bullish posture:

TNX daily/weekly/monthly

TNX daily/weekly/monthly

So, although the 10y looks and feels overbought right now, I just don’t want to mess with a dead horse like rates. I could lay out a compelling case for high grade corporate credit ($LQD) prices having overshot the downside, but I just don’t have the conviction to trade against the overarching trend.

~~~~

Underweight fixed income broadly, I have little investment grade exposure, and I’m going to maintain my high yield ($HYG) singlename positions—all good credits by our analysis, shorter maturities, and obviously low duration. I don’t plan on deploying cash into IG either, since I expect the money would work harder in equities. That’s just opportunity cost.

The portfolio’s allocation has receded to 63/31/6% (stocks/bonds/cash); beta is around 0.89 vs 0.76 benchmark; sigma 1.39 vs 0.82 benchmark.

I’m really poaching $FXCM and $USO for entry points here. The Regional Bank ETF ($KRE) may also be a candidate after it’s weathered this drawdown like a champ. Beyond that, I expect to use the rest of our cash in broad index exposure, like adding to my biggest position, Mid Cap Growth ($IWP).

–Romeo

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  1. […] (stocks/bonds/cash); beta is around 0.95 vs 0.76 benchmark; sigma 1.52 vs 0.82 benchmark. As proposed in my last equity market musing, I followed through with purchases of new positions in $FXCM, $USO, […]

  2. […] did recede from the overbought levels of which I noted in my last entry on the subject.  Now, quite simply, the 10y at 2.642 has confirmed its breakout […]

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