MorningWord 6/13/13: Anything U.S. (equities, treasuries, real estate and even the $) have been a fairly strong investment theme for the past couple years as Europe dealt with its sovereign debt crisis and emerging markets struggled with decelerating growth. I have long said there were obvious characteristics that have made the U.S. “safe haven” trade attractive to both domestic and foreign investors but lets not pretend that we are immune to global market palpitations. With global assets bouncing around of late like superballs in a confined space, let’s look at some of the components of this new volatility regime:
Back in April, coinciding with new-found dollar strength, the commodity complex started to come unwound a tad, with gold, silver and copper (which was down 20% peak to trough) crash off of 2013 highs:
Since early May Treasuries started seeing signs of strain (the TLT is down ~9%, just yesterday making its lowest close in more than a year) as the yield on the 10 year sits solidly above 2%:
Emerging Markets have been in a free fall since April, with the EEM (which is heavily dominated by large Chinese & Brazilian companies and Samsung) is in full on correction mode down ~12% in the last month.
And then there is JAPAN. The Yen and the Nikkei continue to party like Pets.com circa 1999 with little care given to how things are going to end.
Whats amazing to some, but not to all (us), is that all of this volatility in risk assets the world over began as the SPX was at all time highs, and the VIX hovered above 5 yr lows. U.S. “decoupling”, “safe haven”, “best house on a bad block” these were all terms that pundits and analysts have been using to describe why the U.S. has been immune to much of the volatility over the last month or 2 in other parts of the world or the investment spectrum.
Here is a little chart we like to pull out every so often, there is nothing scientific to it at all, but in each of the last 2 years, the VIX and the SPX have converged with the VIX on the way up and the SPX on the way down.
What’s amazingly apparent by the chart above is that it would take a massive flare up for the convergence to happen in 2013 as the SPX has been on a runaway breakout from the recent relationship and volatility has been subdued. (again, not scientific just emphasizing how high the market got and how low vol got). This says a couple things to me and obviously reinforces the sense that U.S. equities are crowded and barely budge (and will be defended) as the Nikkei has sold off 22% in less than a month. The relatively low readings of the VIX in the face of a nearly 5% drawdown from the all time highs in the SPX tells me that investors are either well hedged or way too complacent. What’s interesting to me about this “so far” summer correction is that there does not appear to be that bogeyman event (normally systemic risk in Europe) but rather the more “normal” factors like growth concerns and the effectiveness of central bank actions.
SO to sum things up with a question: are we at the start or the end of something? MY sense is that there has been way too much complacency by global investors in the face of what could be decreasing effectiveness of quantitative easing while global growth is decelerating. IN this scenario, it appears that the U.S. risk assets would be the place to be. But the next few days’ action could be very telling as to whether we are near an end or beginning.
The SPX closed near its 50 day moving average yesterday, a technical level that it has held 4 times since Dec 31st, 2012, each time seeing higher highs. A break below 1600 today would do some serious technical damage and would likely bring a quick test of 1580 and then possibly 1550.
On the flip side of that, the VIX has just made its 4th 50% rally of the lows in that same time period and since Dec 31st, 2012, this has been a great signal to sell vol, and get long.
A central theme of our trading for the last month has been to sell rallies and be long VIX calls (read here), but we have made it a point to make at least one cover of a short position on every sell off (like yesterday here). We have to trade what the market is giving us, and we will look to add longs on an opportunistic basis, while continuing to look for disconnects btwn fundamentals and price action.
So the net of it is that it’s ugly out there, but I do expect some serious support for U.S. equities somewhere btwn 1550 and 1600 and the big money may just let it get there as they like to say, “pullbacks in bull markets are a healthy thing”. We will continue to trade em.