These Markets Are Designed To Explode

The binary nature of today's risk markets has grown more acute over time. Over the past decade non-stop central bank market intervention has ensured that most of today's hedge funds and algorithmic bots are using trend-following strategies. Latecomer Millennial gamblers have piled on at the end of a decade+ rally. Which means that everyone is on the same side of the boat...

When this all explodes, people will ask the same question they always ask - how did we not see this coming? For most pundits, the crashes of 1929 and 1987 stand out as the most abrupt and violent crashes of all time. However, the crash of March 2020 beat both of those by a country mile. Here we see the number of days it took for the market to go from an all time high to down -30%. Last year's crash was 3x as fast as both of those famous prior crashes. 

There are three well known and well ignored market factors that are amplifying rallies and crashes. One factor is what are called volatility targeting strategies. These trend-following strategies use historical volatility to determine the amount of leverage to apply to the market. As the market climbs, realized volatility naturally falls, so these bots add more leverage into the market top. Unfortunately, volatility is mean reverting so as the market falls, these bots sell at the speed of light. Then there are outright momentum following strategies called "CTAs". These machine-based strategies originated in the commodity markets hence they are called "Commodity Trading Assets". However, they have now taken over stock markets as well. The way they work is quite straightforward - as the market rises they add leverage, and as momentum reverses they sell. The third factor - market manipulation using options - garnered a lot of press coverage during 2020, but the inherent risk was ignored. Using call options, Reddit day traders essentially rent capital in order to manipulate the market higher. Market makers on the other side of the trade are forced to hedge by buying the underlying assets.

Over the past year, market manipulation using options reached record highs:

In the context of record central bank stimulus, these trend-following strategies have essentially taken over the market. Then of course you have the mob of Millennial latecomers who decided to wait for the end of the cycle to discover investing. Jim Cramer and Cathie Wood inform us that these newbies are "changing the way people invest" - meaning waiting over a decade to join the party is the new investment strategy. 

What makes this set-up far more lethal than last year is the fact that central banks are ALL IN, retail traders are on record margin, and the market is far more overbought than it was last year. Also, last year there was a massive rotation from cyclicals to Tech stocks. This year, Technology stocks are leading the decline and gamblers have been buying the dip all the way down. 

Another risk of course is the fact that Wall Street is dumping record amounts of junk SPACs into this market. And they will continue to do so, until the market explodes. It's a tradition, so why stop now?

All of which widely known and widely ignored risk factors will combine to make this the fastest and most lethal "unforeseen" crash in market history.

Risk is binary. When volatility reverses, and leveraged buying turns into leveraged selling, those who are trapped in the casino will be fighting with other gamblers to get out a non-existent exit.

Those who believe that central banks can reverse a bear market in a matter of a few weeks, have never been through a bear market. Their only experience in markets is buying into the end of the biggest bubble in history while believing that it's the beginning of a whole new cycle. Ironically, what the COVID bubble and the Dotcom bubble have in common is that they were both Tech stock blow-off tops coming at the end of the longest expansion in U.S. history. Prior to this cycle, 1991-2001 was the longest cycle. Similarly, what launched the final moonshot into Y2K was the LTCM/Asian Financial crisis and the global central bank liquidity bonanza that ensued. 

Good times. 

In summary, at the beginning of this cycle Millennials were Occupying Wall Street, at the end of the cycle they are getting blown up by Wall Street.

You can't make this shit up. 

At The Brink Of Meltdown

In this post I will be discussing the key technical risks to markets. I will not be discussing the fundamental risks of the blighted economy, mass unemployment, 27% combined stimulus, collapsed fiscal multiplier, structural deflation, record corporate debt, Fed-driven bond collapse, since those are all of the known risks this society views as a fantastic buying opportunity...

 

For the past three months in a row, I've written this exact same post at the end of the month as the S&P 500 tested its 50 day moving average (blue circles). Each time, the bears got rinsed and the S&P (and Dow) made a new high. Each test has marked a different position on the Nasdaq head and shoulder top: left shoulder, head, now right shoulder. Each time bulls have become more complacent and each time more bears have capitulated. 

On the subject of capitulating bears, here we see that AAII (retail investor) bears are now at a one year low going back pre-pandemic. Even as the global Nasdaq implodes in the background:

This chart shows several sentiment/positioning indicators:

In the top pane, I show the monthly Ameritrade investor movement index (IMX):

"The Investor Movement Index, or the IMX, is a proprietary, behavior-based index created by TD Ameritrade designed to indicate the sentiment of individual investors’ portfolios. It measures what investors are actually doing, and how they are actually positioned in the markets."

Here we see that positioning is the most aggressive in three years - since the Trump tax cut.

In the second pane, which is updated weekly, the bulls - bears indicator peaked after the election, then it fell and now it's back to the same level, which is the highest in three years. In the lower pane of course monthly margin balances are off the charts.

Ironically, the net effect of the Biden stimulus which is targeted at the middle class is having a similar effect as the Trump tax cut - it's deflationary. It's raising interest rates and it's sucking in capital from around the world. 

Here we see that in dollar terms, the European Stoxx index is rolling over at the same level as it did three years ago. And the Euro is rolling over as well:

China was the first country to go into lockdown last year, and the first country to recover. Deja vu of last year, in 2021 they are the first country to go into meltdown mode again, this year:

What is really different with this re-test of the S&P 500 50 day moving average, is that this time new lows are climbing on both the Nasdaq AND the NYSE:

Why all of this late cycle deception is a good idea is not for me to say. This society is now dominated by assholes who have gone far too long without being held accountable: The longest cycle in U.S. history and one year of sudden death overtime at a ludicrous cost of 27% of combined stimulus "GDP". Which is why now, pump and dump schemes have become the norm of investing. In the background, the margined out body count rises silently while the winners get interviewed on CNBC. The most popular pump and dump strategies even get their own ETFs, such as "BUZZ", "FOMO", and Ark Innovation.

"Ms. Wood has leaned on television interviews and YouTube videos, which racked up more than 1.5 million views, to put investors at ease throughout the volatility

Even during the recent tumult, investors put more money into most of the funds than they took out"

The Last Bailout

Over the past year central banks went ALL IN to protect gamblers from the downsides of their own greed. Which has created a lethal case of "moral hazard":

"Lack of incentive to guard against risk where one is protected from its consequences"

One year later from the COVID lows, and somehow Wall Street, media pundits, economists, and central banksters have convinced the sheeple that the longest bull market in history (11 years) was corrected by the shortest bear market in history (16 days). You have to be brain dead to believe this shit, which is why it goes unquestioned.

The reason they believe this bullshit is because newbies have never heard of a broadening top. Not only is this a picture perfect broadening top - complete with final overthrow of upper trend line - but per the specification, it was powered by retail participation at the end. It's out of control. And it will crash from an all time high, making it the most devastating "unforeseen" crash in history.

Aside from never ending subsistence stimmy checks, policy-makers are out of ammo. 

In other words, the economy will go from the much feared inflation to extreme deflation in the blink of an eye. Which means that the biggest risk markets now face is bailout risk. Because there will not be enough bailout money to go around.

The locus of risk will be global sovereigns that do not have reserve currencies i.e. emerging markets. The other locus of risk will be major corporations that feasted on debt during the past year in order to fake recovery. One year ago, the Fed was granted special authority to buy corporate bonds in the secondary market. That power was rescinded by Congress in December. Without that special Fed power, the corporate bond market will be bidless.

Bill Ackman will make bank on his short of the corporate debt market, two years in a row. 

Here we see via year over year $ corporate debt change the difference between this fake recovery and all of the others. Whereas every other recovery featured ZERO net debt growth during the recession phase, this "recovery" featured the largest spike in history. Minor difference. 

And looking at the grey shaded recession zones, think about this related specious factoid: due to the 27% of combined fiscal and monetary stimulus, we are told that this was also the shortest recession in history, amid five years of job losses.

We can fully expect the next synthetic "recovery" to feature zero employment.

Getting back to the bailouts, one must understand the level of rage that will emanate from this impending meltdown. There will be no appetite to bail out the rampant assholes who led the public to believe that this was a risk free market. 

Which means that aside from massive short covering rallies, debt laden sectors of the market, and financial stocks exposed to debt laden sectors of the market, will be in deep trouble aka. cyclicals which have been leading the market in 2021 and are the number one consensus trade on Wall Street. 

Think of this past year as a massive one year TARP bailout rally that will inevitably fail now that short interest is at record lows.

The Tech sector lost -80% after Y2K and was dead money for over a decade. Which leaves high quality defensive stocks - utilities, consumer staples which are currently overvalued but can be bought after they implode.

As far as gold goes, I will scale into it over time, but I am in no rush. We can see from the chart that gold is one of the few markets that knows what is coming.

In summary, all of todays economists, financial advisors, media pundits, and central banksters are wrong again, when it counts the most. This time they will lose all credibility. And then the underwear will be mighty stained.

Their fatal miscalculation was assuming that per the Minsky Financial Instability Hypothesis, the Federal Reserve is in full control over interest rate policy - they alone can decide when the cycle ends. However, what we are seeing in real-time is the market is taking that control away from the Fed. 

"Over a protracted period of good times, capitalist economies tend to move from a financial structure dominated by hedge finance units to a structure in which there is large weight to units engaged in speculative and Ponzi finance. Furthermore, if an economy with a sizeable body of speculative financial units is in an inflationary state, and the authorities attempt to exorcise inflation by monetary constraint, then speculative units will become Ponzi units and the net worth of previously Ponzi units will quickly evaporate. Consequently, units with cash flow shortfalls will be forced to try to make position by selling out position. This is likely to lead to a collapse of asset values"

Getting back to the casino:

The Nasdaq (100) has been working on a two month head and shoulders top, with a very weak right shoulder. Only a handful of the largest cap stocks are still holding it up. 

Since the FOMC meeting last week, cyclicals have been joining the downside party. They have not corrected back to the 200 day moving average since the election.

Today's newbies have never seen a bear market, so they keep buying the dip all the way lower. Now, they are throwing their latest stimmy check away at the casino. There is no sign of capitulation, which is why the market keeps dripping lower. It's heading for the panic moment. Even perma-bull Cramer understands that the noose keeps getting tighter:

"CNBC’s Jim Cramer on Tuesday said the stock market won’t reach a bottom until sentiment finds a low point, akin to how stocks rebounded from the historic coronavirus-fueled plunge last year."

A couple things Cramer gets wrong: First, there is no leadership in this market anymore. Second, this decline will be worse than last year. 

The COVID rally was merely the blow-off top in a decade+ Tech-led rally going back to 2009. Cleverly marketed by Wall Street as the shortest bear market in history.

Looking at the weekly chart of the Nasdaq we can clearly see there was no bear market, there was merely a correction prior to the one year 1999 style blow-off top. 

The Dumb Money Bubble Is A Crowded Trade

In Japan and China, gamblers have already learned the hard way about trusting central bank sponsored delusion. So far the U.S. has dodged that fate by creating ever larger and more lethal bubbles. Those who keep betting on these dumb money bubbles will wake up to the inevitable reality that there is no one on the other side of the trade...

In any functioning society this level of deception would be illegal. However, Congress has decided that central banks are running pump and dump schemes so why shouldn't everyone else? After all, Wall Street's various frauds have been bankrolled by serial monetary bailouts since 2008. It's high time we democratize financial fraud in this country. 

When the media pundits, the economists, central banks, and financial managers are all drinking the exact same dumbfuck Kool-Aid, then us skeptics of fraud are easily derided as "perma-bears". Those who don't believe in fantasy and denial. The unbreakable faith true believers have in common is the belief that central banks are omnipotent. Because everyone knows that printed money is the secret to effortless wealth.

It's the same type of Disney thinking that now abides the skyrocketing addiction epidemic. When times get hard simply dial up the drugs and alcohol to level '11' and hope it all goes away. It's an infantile strategy for an infantile society totally incapable of accepting reality. 

This is what the average person is told to believe:

Below we see the total amount of stimulus that will be deployed in 2021: 27% of GDP:

This is a fully synthetic recovery with no plan for how to recover from the fake recovery. 

The Fed's hubristic miscalculation is the fact that as we see above, this year the amount of fiscal stimulus dwarfs the amount of planned monetary expansion in 2021. Whereas the Fed fully monetized the entire deficit in 2020, they are of the belief that in 2021 the bond market will absorb record issuance. It's an asinine delusion that is already failing. In 2019, the $1 trillion deficit broke the overnight repo market requiring a Fed bailout. This year, the deficit will be four times that amount. The Powell Fed told the White House to go big on fiscal stimulus - and they did - but now the Fed is in a reflationary bind. Reflation expectations are skyrocketing due to the combined 27% stimulus, combined with the vaccine and re-opening. 

The Fed can't save the bond market from the Minsky Moment they themselves created. So what they have to do now is wait until markets explode and then come in with a bailout. Unfortunately, margin clerks work far faster than the FOMC, and algos are faster than margin clerks. There will be serious carnage when this biggest of all time dumb money bubble explodes. 

For those true believers in "free money", here we see that despite massive monetary expansion and record margin debt, the ultra-crowded Technology trade already imploded.

The chart above should be a warning to those who are now crowded into the ultra popular 2021 cyclicals trade. No bubble lasts forever. 

So far, the Dow peaked last week and the Nasdaq peaked in mid-February which is similar to Y2K - one month apart. In addition, despite the largest one year Dow rally in history (to an all time high), Dow new highs are the lowest since Y2K:

As far as the imminent recovery at 27% stimulus, here we see that refinery oil demand (lower pane) is at a decade low, while oil is record overbought (top pane).

Between the insane stimulus, the narrow breadth, and the lack of economic activity, this is by far the most specious recovery in U.S. history. 

And it's now running on glue fumes. 

In summary, epic meltdown from all time lies, is inevitable.

And printed money is not the secret to effortless wealth. But it does fake a lot of people over and over again - 31 years, but who's counting?

Margin Call On Bullshit

The Fed is driving the bond market to a Minsky Moment, in order to "help" the economy...

"When the tide goes out, you discover who's been swimming naked"

- Warren Buffett

"A battered Treasuries market faces another trying week as it will have to absorb a massive slate of auctions focused in maturities that have gotten pummeled amid a brightening outlook for growth and inflation"

It’s been a month since a disastrous seven-year auction sent the bond market into a tailspin that reverberated across financial markets and helped put benchmark yields on the path to prepandemic heights. Now that maturity is on the calendar again"

One month ago this week is when the Tech rout accelerated due to the spike in bond yields - that was BEFORE the stimulus passed...

Zooming out to the decade view: 

The one year rate of return in long-term Treasury bonds is the worst since 2010. But cyclical stocks are cycle highs

Someone is swimming naked:

One month on from the failed seven year bond auction, the $1.9 trillion stimulus is in effect, the Fed is still on full afterburner, AND as feared last month the SLR is expiring:

February 26th, 2021:

"Bond traders were already on edge as they waited for Fed guidance ahead of next month’s expiry of a regulation that has encouraged banks to buy Treasuries"

The main protagonist in the bond market was the five-year Treasury note, a maturity often associated with long-term Fed rate expectations"

Friday the SLR was rescinded because it had been encouraging excessive risk taking over the past year:

"It is surprising. You can see it to some degree from the markets reaction. I think some people figured if the Fed was going to kill it, they would give it more than 12 days.”

Schumacher noted that banks are bigger holders of 5-year Treasury notes, whose yield edged higher after the announcement"

The supplementary leverage ratio is a product of post-Great Recession banking reforms...Fed officials worry that relaxing the ratio might encourage banks to load up on risky assets like junk bonds, which carry the same weight against reserve requirements as safer holdings."

Unlike every other cycle, there has been no deleveraging in this cycle - quite the contrary there has been a massive increase in risky junk debt. Which is why the Mr. Creosote bond market is hyper-sensitive to reflation expectations. Policy-makers assumed they could build a new bubble on top of the last decade's super bubble: 

Over the past year, massively leveraged risk has been accumulating in corporate debt markets, sovereign debt markets, and of course stock market margin accounts (lower pane). The Fed has lost control of the Treasury market - they can't step on the brakes or the gas, without imploding markets. They are now bystanders to their own Minsky Moment.

Since last month's failed bond auction, the overnight lending ("repo") crisis flared up again, the stimulus was passed, the FOMC reiterated their policy to "run hot", and the SLR just ended. All factors that will put even more pressure on the bond market. 

Failed bond auctions, record junk debt, pump and dump ETFs, FOMO ETFs, brokerages offline every other day, record SPACs, record speculation - just remember:

"No one ever sees it coming"

Financial Weapon Of Millennial Destruction (WMD)

The biggest risk to gamified markets, is the gamification of markets...

For the first decade+ post Global Financial Crisis, Millennials stayed on the stock market sidelines, more prone to joining the Occupy Wall Street movement than joining the investment club. It took a global pandemic depression at the end of the economic cycle to finally convince them to go ALL IN. Now those who have never experienced a single bear market inform those of us who have that WE don't know what we're talking about. Unfortunately for the all-knowing ignorati, the current level of record margin leverage is a financial weapon of Millennial destruction. And there will be substantial collateral damage.

I've heard many perma-bulls rationalize high margin balances by saying that margin levels merely follow the market - up and down. However, any mental midget can see from the chart above, that is not true. One year ago at the start of the market rout, margin balances were at a four year low going back to 2016. I suggest that the low level of margin is one of the reasons why the market didn't outright implode. We will now find out what last year would have felt like, with record margin balances. 

Stepping back for a longer-term perspective, it took the gamification of markets to finally get the Millennials off the sideline. Up until trading became a video game it was too boring to warrant their interest. We have learned recently that their favourite trading app, Robinhood, is merely a Candy Crush front-end for the Citadel HFT dark pool. Which means that under the cleverly marketed auspice of democratizing markets, newbie investors are being fed to the sharks. Since the Gamestop pump and dump debacle, newbie investors have accelerated their adoption of online investing. Now there is an SEC-approved ETF called "BUZZ" that bases its investing decisions around Reddit boiler rooms. Weeks after Gamestop wiped out untold numbers of newbie investors, this week Cramer was out recommending Gamestop as a potential stimmy investment. Cramer knows full well that hedge funds made the most money from that debacle - on the short side. Bill Gross said he made $10 million shorting idiots. Chump change by his standards. 

 

When Congress held their hearings on the entire Gamestop debacle, their primary concern was that brokerages had limited access to retail participation in the pump and dump scheme. It was a fucking circus. Everyone deserves equal right to lose all of their money to market fraud. It's the American tradition. Next thing you know these Marxists will want to regulate Wall Street.  

I normally wouldn't show such a pissant stock as Gamestop, but here we see it is a typical pump and dump scheme. It round tripped from $40 to $480 and back again in a matter of a few weeks. Most of the dumb money got trapped at the top. Then it had a second go around to a lower high that was three waves corrective.

A good indicator for overall social mood at this latent stage. For this week of peak stimulus, Gamestop is down -20%.

I've heard another rationalization recently that if Tech stocks implode deja vu of Y2K that cyclicals are now leading the market, so it won't matter. The strong breadth is proof that there is broad leadership. That specious argument gives me a good segue to discuss cyclicals during this key FOMC/Biden stimulus week. 

First off, it's true that in Y2K cyclicals were lagging badly when the bubble imploded. This time around cyclicals have been rallying since November. So now cyclicals are concurrently record overbought. Why that is good is not for me to say. We have never seen the Nasdaq and Dow multi-decade overbought at all time highs at the same time. This week, Morgan Stanley downgraded small cap stocks on valuation. In addition, the Fed just monkey hammered bank stocks with its decision to rescind the COVID-era emergency "SLR" (Supplemental Leverage Ratio) rule change that exempted Treasuries from being considered assets that need to be collateralized with capital. 

The irony can't be overlooked, as bank stocks finally eclipsed their 2007 level this week:

I will go out on a limb and say that this week during peak stimulus, the November post-election rally in cyclicals has finally peaked:

I would be remiss if I didn't mention that oil got monkey hammered on the week.

In summary, every retail bagholder knows that the time to buy the most overbought sector is 14 years after the prior market high. Millennials know it better than anyone. Because they are the only ones who have no idea how much fun it can be buying the top. 

It's their turn. 

Hyper Asset Inflation Hyper Asset Crash

Monetary policy is no longer helping the economy and the fiscal multiplier has collapsed, so the ever increasing firehose of "stimulus" is having its primary effects on markets...

The greatest risk we face - and one that none of today's pundits are discussing is the fact that ludicrous amounts of stimulus are now needed to move the economy. Stimulus that is having far more impact on markets than the economy. This is a risk that policy-makers have implicitly accepted and of course casino gamblers could not be happier. However what it all means is that the inevitable reversion to the mean will be a devastating crash AND there will be no stimulus safety net. 

Here we see from a chart of cyclicals that long-term bond yields have just now reached the 2009 lows. And yet, all of today's pundits are panicking that bond yields are too high. Why? Because back in 2009 at this level of deflation, cyclicals were down -80% from the highs, whereas now they are up 180% from the lows. Again, all of today's monetary policy is now fixated solely on markets, and because this stimulus is having a dwindling effect on the economy, we now have a case of epic over-valuation and a moribund economy.

Policy-makers are pushing markets inexorably towards an epic crash with no economic safety net. 

The reason why all of today's economic analyses are clueless is because economists are using year over year % gains to measure improvement in the economy. When the baseline is the worst depression in 90 years, year over year comparisons are meaningless. They need to compare to 2019 as their baseline, not 2020. For example, on GDP, the Congressional Budget Office puts calendar year 2021 GDP growth at 6.3%. Goldman Sachs estimates 2021 growth at 8%. However, using 2019 CBO numbers as a baseline, the TWO YEAR growth rate is actually 3.8% which is 1.9% per annum. Somehow, 2% GDP growth and 20% growth in national debt, doesn't sound as good. It implies a fiscal multiplier of 10% - spend $10 of government money to get $1 of GDP. 

We see this type of disingenuous data mining all the time. Here we see that the most recent CPI came in at 1.68%. And yet according to Zerohedge, we are on the verge of becoming Zimbabwe. 

What we have isn't sustained inflation, what we have is asset inflation due to rampant speculation, feeding back into the economy, where it's doing far more harm than good. 

For example, we are told that a lumber shortage has caused lumber prices to skyrocket, which is now tanking the housing market. 

Here we see housing starts (black) with lumber prices (red). Housing starts today are far lower than during the housing bubble, yet lumber prices today are far higher:

Of course monetary policy is now ENTIRELY skewed towards markets. At the 0% bound, there is no room to cut rates to help the over-levered economy. In addition, quantitative easing is solely intended to give risk asset markets the feel good fake wealth effect. The theory is that the economy will eventually catch-up to epic over-valuation. Someday, over the rainbow. 

Unfortunately, there is no such thing as "free money". This is a lesson that today's pundits, the public, and the Fed still haven't figured out. By attempting to monetize the Biden deficit, the Fed is now driving reflation expectations higher. Which means they are in a box - they can keep buying bonds and driving bond yields higher until global risk assets implode, or they can stop buying bonds and watch the over-supplied t-bond market go bidless, imploding risk assets. Either way they have effectively lost control of the bond market. 

This article from Mohammed El-Erian gives the long version of what I just said. And no, the Fed did not just "thread the needle". They bought a one day short-covering reprieve from higher bond yields. 

Here we see the Fed balance sheet and T-bond prices. In the deflationary phase  of 2020 massive bond purchases held up the bond market. Now, in the reflationary phase, the massive doses of liquidity are having the predominant effect of driving up reflation expectations, which is crushing the bond market.

This past year the Fed expanded their balance sheet by $3.5 trillion, mostly buying long-term Treasury bonds. And yet prices have collapsed. What should they do now, buy more?

El-Erian:

"Trying to calm the yield concerns by signaling more purchases of securities, thereby risking yet another leg up in inflationary expectations"

Of course we've seen this movie before but never when the impending outcome was this dire. We saw headfake reflation in 2008, 2011, and 2018. The Dow drawdowns were -55%, -20%, and -20% respectively. 

What it comes down to, is that in order to appease financial markets, the economic bar just keeps getting lower and lower and lower, while asset markets keeping going higher.

This is an asinine divergence that can only end one way. When everyone agrees it's an asinine experiment. In the meantime, they need to get conned by asset inflation and the attendant bullshit, one, more, time...