FANTASY: I picture the old S&P pits from the 80s with mobs of intense buying pushing the market to all-time highs, and there I am hovering above the chaos, rigged to a wire like a character in a stage play that allows me to hover over the clamoring arms and sprinkle pink tickets on them like the petals of a rose - sold to you! - sold to you! - and yet the buyers can't get enough, so I attach a dispenser to my rear that unravels pink tickets by the hundreds, and I glide across the room in the Heisman trophy pose with my right arm straight out, doing a slow-motion bicycle kick while I crop-dust the eager buyers with pink confetti flying out my arse - sold to you! - sold to you! - sooooooold to you! Oh, baby birds, little robins, eat it up, daddy's got more where that came from - SOLD TO YOU!
That image has played through my mind all summer.
SUMMARY: With stocks priced to perfection, it's time to look ahead and calculate the baked-in degree of delusion by considering how the election and second wave risks will affect different asset prices. I'm thinking we get mean reverting reversals into the election to shake people out of their position. Covid is an unknown, but I don't see why anyone should believe the worst is behind us.
Things to consider:
The expected short-term rate of change improvements in the data is probably close to over, but the virus uncertainties are clearly not, and yet the market is priced like the worst of the Covid is behind us and it's all rainbows and unicorns from here.
There won't be any Fed action anytime soon, so the only positive catalyst left is a fiscal package, which, even if it does happen, why wouldn't it be sell the news?! And if not, how come? You can make the case that the fiscal and monetary actions of the last six months has replenished the missing economic activity, but now what? People need more money. What about all the closing businesses, reduced hours, layoffs etc., and that's before we even find out if there's a real second wave that makes it all much worse.
It seems to me this is the worst risk/reward for stocks in all of recorded history. And that's not even considering the algo dynamics of shaking people out of their position like the last election. In the face of all this known economic damage, the Fed on pause, and the uncertainty of a second wave, my question to you is: how will the buyers maintain a bid into the most binary event in years?
But to start the selling, we need a catalyst, right? The obvious ones are the upcoming NFPs, or the Fed meeting, or sometimes stocks get marked up into quarter end, or Sept OPEX etc. For someone who doesn't have clients to appease, selling here is a no-brainer. Even if the market breaks out for real, does anyone think it's not going to come back and test these levels after the election, after we know whether there's a second wave? Then why should I hold through all of that uncertainty if I can get back in at the same level or better after there's more clarity? It's this thinking spreading like a virus that should cause the market to rollover. If this was poker, staying long is like going for the gut-shot straight draw on the river. Sure, it could work, but you won't be winning many tournaments if you do that a lot.
Selling longs is not the same as getting short, however, I am looking for a signal to short the ES, but I plan on buying ATM calls against it to limit the damage if I'm wrong. I'd like to see a breakout in the ES on one of those potential catalyst days that fails. The smart thing to do is to actually wait for the reversal signal to close back below the high, and it should be on a weekly candle, but I'd rather be part of trying to stuff it - if I happen to be available on the day, and I'll buy the offsetting calls to limit the loss to under half a percent.
Then, if there's continuation to the downside, I'll either drop the calls, or more likely sell deeper OTM calls against it to make it a pure short or close to it. If the breakout holds, I bet I could get out for less than half a percent because it would only be a couple of days. I'd be willing to try this twice. It's probably 10-1 for account sizes that can get in and out with a few clicks of a button (although, I personally recommend to never short stocks). If I was a hedge fund that can't be that nimble, I'd sell futures into a breakout to hedge my long book, which doesn't mean it's going to work, but this game is the same as poker: if you consistently play positive risk/reward setups the positive expectancy will play out over time in your favor.
I honestly don't know why some people stake their entire reputation on a particular call. Anyone who puts real money on the line could not care less when someone else gets something wrong, or right. It's all in your head. I've made money being wrong, and lost money being right many, many times. It seems fairly self-evident that it's not a good idea to tie your self-esteem to predicting the unknowable. And that's not to say there isn't a fun endorphin rush being right, or a torrid wave of worthless shame being wrong, but if you turn the volume down on that and not overly indulge in either, there's a freedom that comes with it that's priceless, so, seriously, pumps the brakes on the self-loathing - no respectable person cares if you get something wrong.
It's not often that we have massive upcoming catalysts and now there's two in the months ahead: election scenarios, and Covid second wave risks. Someone smarter than me will put more time into these possible election scenarios, but here's a start. The first two seem straightforward to me:
1. Trump + blue houses = crazy infrastructure spending and retaining the lowered taxes because Trump will become a Democrat with no nothing to lose and only a legacy to gain. I would think this would be: dollar bearish, gold & silver bullish, stocks bullish, oil bullish, and bonds I don't know-ish, probably bearish.
2. Biden + blue houses = higher taxes so stock market goes way down initially, but then it gets priced in, and the realization that insane fiscal and monetary policies are coming is bullish for everything, so stocks go way up over his term. This is the most direct path to inflation because it's likely the only way Universal Basic Income gets passed - like for real, not just patchwork periodic Acts. (I will add, though, option one is also a way UBI could happen because Trump's only belief is whatever will cause the stock market to go up, he will do.) Dollar bearish, gold & silver crazy bullish, stocks bullish even crazily so in the right ones, oil back to $100, and bonds bearish but capped by yield curve control, so it doesn't make a lot of sense to short bonds.
The split house route is much more murky:
3. Trump + split houses = dragged out fights over everything, so somewhat of a restraint on fiscal, but they'll still get things passed because that's what politicians with no accountability do, so MORE EVERYTHING, however, it's not as clear as option number one in how it will affect the different asset classes. Bonds would likely stay firm with stocks more volatile, the dollar rangey, oil who cares, gold rangey, and silver restrained. This one would suck. And so would the next.
4. Biden + split houses = stocks way down with a more difficult path back up. I suppose you could argue split houses will make tax hikes impossible, so maybe stocks don't react that much, but after long battles the Republicans would likely say if you keep taxes low, we will spend like drunken sailors on infrastructure. So the two split houses scenarios will likely still continue to expand the everything bubble, but in a much more restrained, difficult path. In all of the above, I think stocks eventually go back up and way higher, but how low do they go in the meantime is dependent on the scenario.
*And it should be noted I'm only trying to grease the wheels in your own mind. We just have to react to what the market does, but I find it helps conviction if the market responds in the way you anticipate.
The Covid risk is more important because it will trump any scenario above in the short and medium term. I read an article the other day suggesting that fading antibodies doesn't matter because people still develop long-term immunity after infection, which would be great if true, but it still means we need to develop herd immunity, which requires massive virus spreading and long-lasting economic damage. I don't find much hope in a vaccine because it will take so long to rollout and so many people won't do it anyway, myself included. I'm not letting the government stick a rushed vaccine into my arm.
All I know is if schools reopen, kids don't care like adults do, and winter is when other colds and flus cause coughing and sneezing and mucus and indoor life for the north with people touching doorknobs and faucets with infected hands etc., so I don't see a reason why anyone should be expecting the worst of Covid to be behind us. The fact is no one knows, and despite all the figuring of election scenarios, the real risk is the degree of a possible second wave.
ES Weekly. I'm looking for at least a 10% - 15% pullback to 2900-3000, and if the wrong election result happens, or a second wave occurs, then it's back to the March lows to form a giant W, which honestly should be the base case. Good Covid news really should be a welcome relief, not the base case, meaning, if you think a virus that's asymptomatic for two weeks, and this contagious, will be contained, what are you basing that on?
DXY weekly. A mean reverting bounce would be pretty normal, mostly because it's going to be hard to maintain conviction into the election, but sometimes there's that one last annoying move lower, which requires either small position size or a stop out and another try. Even with this reversal candle it's still in a downtrend. A higher high would happen above 93.91.
Unless it happens on a catalyst day, I likely won't get involved. 95 is an important level the bears would want to defend. If you apply the "what is the nastiest thing that could happen" mindset to this, it would be: a poke higher through 93.91 that reverses back down, then a new low below 92 that reverses back up and moves into 95 for the election, then a big spike into the triangle during the election debacle that reverses and closes back below the triangle. I probably don't need this in my life right now.
EURUSD weekly. This is exactly where you would think a reversal would happen. If this market is going to breakout higher it likely needs to pullback and/or consolidate for weeks and then assault this level again. I don't see why it will continue this relentless upside into the uncertainty of a binary event. Note: the giant triangle finally broke to the upside, but what about a quarterly close back inside it at the end of September? Doh.
GC weekly. Gold will try to hold its old high at $1923, and maybe it succeeds because there's really no end to future monetary and fiscal easing, but a deeper pullback is probably likely and shouldn't be ruled out. I'm hoping to see it come down and reverse off the $1800 consolidation level. If it did, I'd add to a core position, and if there's some kind of sharp reversal, I'd play a spec position from there as well.
END GAME: deflationary vs inflationary
This is the main macro thing to figure out in an overall outlook. Will the dollar spike uncontrollably upward and force a Plaza Accord devaluation, or will it plunge all-time lows and force the Fed's hand to tighten, thereby ending the secular everything bubble?
Ten years ago, my natural way of being was an inflationary end game person, but then I morphed into a deflationary person (mostly because I anticipated the dollar bull run), then last year I morphed back into an inflationary person. It seems to coincide with where I think the market is going in the next six months. If it wasn't for the flawed structure of the Eurozone, this would be easy: the dollar is toast.
I understand the "global dollar short" argument, and maybe it's right, but I think all those reasons are why the dollar will go down, not up, as we've seen over the last few months. Every liquidity and solvency event will be met with fiscal and monetary fire hoses. There is no limit - UNTIL a plunging dollar forces their hand. THEN you get the deflationary spike. If you add a Democrat controlled political structure and UBI then the inflationary scenario is a lock. The only concern is if the Eurozone hits a wall about debt mutualization and comes under political pressure to breakup. Then you get the dollar spike that forces intervention.
So, to me, if Covid worsens, and solvency events happen, that's dollar bearish. If a blue wave takes power, that's dollar bearish. If Trump wins, Covid resides, and the Eurozone comes under political unrest, that's dollar bullish. So, unless there's a return of the Eurozone fracturing narrative, all dollar strength and gold weakness is corrective within their respective larger trends. And the upside to gold is still staggering in potential. You just have to remember pacing. A move up from its breakout last year is supposed to consolidate for awhile before advancing again. That could happen through time, or price.
Bonds weekly. I don't see why bonds won't breakout and test those highs, especially if stocks selloff into the election. If Dems sweep, I wouldn't want to be long bonds. It could work if stocks selloff as a risk-off play, but the anticipated flood of treasuries would worry me. There's certainly spec plays into the election, but not through it. At least not unhedged - as a position in a portfolio or with protection.
AAPL Weekly. I'm a buyer of Apple around $325, which is $81 after the split. I hope I get the chance.
In closing, I'd like to remind you that I don't know anything, and it wasn't long ago I had pink confetti flying out my arse.
