Analysis, Perspective, Trading Strategy
At the Edge of Chaos: Something Really Big is Happening in the Markets, the Economy, and People’s Lives
Duarte in the Money Options
the Federal Reserve doesn’t change its current policy implementation
methods, the 1800 point decline in the Dow Jones Industrial average
we saw on June 11 will happen over and over again.
The two major rules to follow when investing in stocks are: 1) Don’t
fight the Federal Reserve, and 2) Don’t fight the market’s momentum.
But what are investors supposed to do when the Fed makes it clear that
interest rates will remain near zero for two years and the market crashes?
Certainly, one thing I’ve learned over the years is that when things
don’t add up, it’s time to re-evaluate assumptions and positions. Of
course, the market had come a long way since the March bottom. And
as I noted in this space last week: it seemed as if we were “entering
a momentum run in stocks. And as everyone knows, all momentum runs
end badly, although they are very exciting as they develop.”
Moreover, referring to the hard choice that was facing investors
who had missed the rally from the March bottom, I noted: “it’s hard
not to see that hedge fund managers and individual investors who first
avoided the rally and who in some cases had increased their short positions
over the last two weeks of social unrest will have to go back to the
drawing board and consider whether to chase the stock market’s rally
clear momentum acceleration. What makes this an even riskier decision
is that after a nearly complete reversal of the bear, stock prices
may be beyond reasonable valuations, which means that when the rally
is over, the ensuing decline may be even worse than what we saw in
the early days of COVID-19.”
The Bazooka is Shooting Blanks
A selloff of that magnitude could only have been caused by a complete
liquidity shutdown which prompted the high frequency trading algos
and market makers to either step aside or to continue to mark stocks
down in price until somebody took a chance on buying stocks. The problem
is that no one stepped up with any real conviction until Friday afternoon.
How did this happen? Well, the Fed promised to keep interest rates
low until 2022. That was bullish. But at the same time they cut their
liquidity infusion into the capital markets to $3.5 billion per day,
from the original $75 billion per day, the so called Bazooka maneuver,
which they implemented when stocks crashed earlier this year.
So without hedge funds trading, the market was left to depend on
the new wave of money that is moving stocks these days, day traders
reportedly financed by government stimulus checks. The bottom line
is that what we saw on Thursday, and which we may see again on any
given day from here on was purely a liquidity vacuum made worse by
high frequency trading bots whose prime directive is to exaggerate
the trend, up or down.
The bottom line is that the Fed is suddenly all talk and the Bazooka
is shooting blanks.
So what’s Left?
We are caught in a bind. On June 10, the Fed made it known that interest
rates would stay low until 2022. On June 11, the market crashed on
reported fears of a second wave of COVID-19. But would the selling
have been so severe if the
Fed had been pumping $50 billion into the money markets instead of
$3.5 billion. Probably not, I would wager.
Indeed, what that means is that the primary issue facing all investors
now is how much easy money the Fed will decide to inject into the money
markets on a daily basis, if it indeed expects that stock prices can
stay up when bad news, such as the COVID-19 headlines that rocked the
market last week hit.
To summarize: The Fed won’t raise interest rates for two years, which
is historically a signal to buy stocks. But, this time is actually
different because while it’s keeping interest rates low, it’s also
putting less money into the financial system on a daily basis, hoping
that low interest rates will keep things afloat.
That’s a big tactical error, because there is too much debt in the
system at the same time that economic activity has been significantly
reduced by COVID-19. Therefore in this market and economy low interest
rates without insane amounts of money being pumped into the system
by the Fed simply won’t work.
So, either the Fed bites the bullet and throws caution to the wind,
or the market action we saw on June 11 will be a regular occurrence.
There are still some interesting stocks in this market. And I have compiled
a small list of companies whose stocks are showing relative strength
and may be worth owning. The list can be accessed via a FREE trial to Joe
Duarte in the Money Options.com
Monster Beverage Outperforms Coca Cola and Pepsi
In a market that’s crashing and burning, it’s difficult to find stocks
which display relative strength. One interesting candidate is Monster
Beverage (NSDQ: MNST) the company responsible for the Monster Energy
When compared with the shares of its two largest competitors in the
soft drink sector, Coca Cola (KO) and Pepsi (PEP), Monster was clearly
a cut above during last week’s selloff. This is likely to stem from
the fact that although COVID-19 made a dent in its convenience store
sales, as would be expected, the virus’ effect was much less than what
it was on its competitors, given its niche, especially during challenging
times in which people need energy boosts in order to perform daily
tasks under stress. In fact, the company reported a slight gain in
market share in its most recent earnings.
Moreover, the company registered rising sales in its products sold
through Amazon.com in the U.S. while also registering gains in Europe.
The stock is off of its recent high but has good support near the $67
area. A sustained move above $70 could take the stock significantly
higher if the market holds up.
NYAD Holds above Support
The major indexes got crushed, but the New York Stock Exchange Advance
Decline line (NYAD), the most accurate indicator of the market’s trend
since November 2016, held above the key support levels of its 20, 50,
and 200 day moving averages.
Moreover, the aggressive decline in stocks moved NYAD’s RSI to the
50 area, which is often good support when the downtrend is temporary.
So, if RSI and the moving averages don’t break down further, we could
see a resumption of the uptrend.
The S & P 500 (SPX) took a scary nose dive on 6/11/2020 and gyrated
wildly on 6/12, managing to remain above its 200-day moving average.
Meanwhile the Nasdaq 100 (NDX) performed similar acrobatics near
its 20-day moving average. Interestingly, both NDX and SPX saw an upturn
in On Balance Volume (OBV) on 6/12, suggesting that there was likely
some short covering and maybe even some dip buying on 6/12.
MEL Does not Live by Low Interest Rates Alone
The complex adaptive system known as MEL (the markets, the economy,
and people’s lives) has a major structural problem.
The Fed can’t stop injecting money into the financial system or everything
will crash. Zero interest rates mean nothing to the economy or the
markets if there isn’t any money circulating in the system. The only
possible outcome of such bipolar maneuvering from the central bank
is that the highly indebted economy and the liquidity propped stock
market will both grind to a halt in the face of high unemployment,
social unrest and COVID-19 fears.
The sudden reversal in stocks last week is proof of the above stated
premise. Certainly, lower interest rates have proven to be the major
boost for stock prices historically, but more so over the last twelve
years. This relationship has held up well regardless of economic fundamentals
for large periods of time. But it seems that low interest rates aren’t
enough anymore. As a result, given the fact that the Fed just told
the markets that it wouldn’t raise interest rates for two years, now
they have to raise the amount of money they put into the system.
Furthermore, we are at an impasse between the two major factions
interacting in the market; hedge funds that are savvy players who understand
the liquidity situation, are thus generally bearish and have missed
the rally from the March bottom and day traders, who are inexperienced,
poorly capitalized, and who are purely focused on momentum.
Which brings me to this rather concerning final point; in a market
where artificial intelligence is programmed to accentuate the underlying
trend, whether it’s being fueled by hedge funds or day traders, trading
the markets is about to get even more interesting. That’s because if
either side the actually wins this battle, the emerging trend, up or
down is likely to be spectacular.
I own shares in MNST
Joe Duarte is a former money manager, an active trader and a widely
recognized independent stock market analyst since 1987. He is author
of eight investment books, including the best sellingTrading
Options for Dummies, rated a TOP
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