Gundlach Reveals His Favorite Trade For 2018

One day after Stanley Druckenmiller confessional to CNBC that as a result of central planning and markets that make no sense, the legendary hedge fund manager had a "terrible" year, and his "first down year in currencies ever" (he also said many not very nice things about bitcoin), it was Jeffrey Gundlach"s turn to confess some of his more controversial views. And so, the man who two years ago correctly predicted the Trump presidency, first discussed his best investment idea for the new year. To those who listened to his latest DoubleLine investor presentation last week, the answer will hardly be a surprise: namely commodities, because they"re "historically, exactly where you want it to be a buy."

"I think investors should add commodities to their portfolios," Gundlach says on CNBC"s Halftime Report.

Gundlach said commodities are just as cheap relative to stocks as they were at historical turning points, while the macroeconomic backdrop also supports the case for commodities; he was referring to the following chart which he highlighted last week.

Echoing his presentation from last week, Gundlach said that once "you go into these massive cycles... the repetition is almost eerie. And so if you look at that chart the value in commodities is, historically, exactly where you want it to be a buy."

Investors should add commodities to their portfolios. There is a really remarkable relationship between a market cap or the total return of the s&p 500 and the total return something like the Goldman Sachs commodities index. The cyclicality is really repettiive.

Gundlach also noted that commodities are just as cheap relative to stocks as they were at turning points in previous cycles that began in the 1970s and 1990s. The S&P Goldman Sachs Commodity Index is up 5% this year, versus the S&P 500"s 19% gain.

There is also a fundamental case for investing in commodities, Gundlach said. He pointed out that global economic activity is increasing, a tax cut could boost growth and the European Central Bank is implementing "absurd" stimulus policies in the euro zone.

Jeffrey Gundlach: Investors should add commodities to their portfolios from CNBC.

In addition to his favorite trade, Gundlach touched upon several other topics including:

What drives the dollar:

"Short-term fed moves are not what drives the dollar. It correlates much more to what the bond market thinks vis-à-vis the fed say 18 months forward. So if you actually rook at the bond market pricing for 2019 now, there’s a pretty big discrepancy between the bond market and the fed, so that’s going to be really interesting in driving the dollar, and this time i think the bond market is going to be right."

Why the markets are so calm:

"I think it’s because of central bank pegging of rates and quantitative easing going on full bore in  europe and in japan. One of the charts that i love to reference is the nearly linear rise in central bank balance sheet holdings ever since 2011, where the Fed stopped quantitative easing back three years ago, and japan and the ecb just took over the slack, and it’s just a linear rise."

 

Jeffrey Gundlach: This has been a great year for investors from CNBC.

On ECB president Mario Draghi:

"That’s going to slow things down a little bit, but the real worry from the central bank activity would be forward about a year. Because Mr. Draghi has said astonishingly that they’re going to continue 30 billion euros per month of quantitative easing at least until September and then he threw  in, just to put a cherry on top of the cake of stimulus, he said, and negative rates well past the end of quantitative easing. Which means – sounds to me you’ll have negative rates as long has Mr. Draghi is around which is a little under two years."

On tax cuts and bonds:

"If there is a net tax cut, it has to be bond unfriendly. we already have growing bond supply. we’ve been liiving in a world for the last three years thanks to quantitative easing of negative net bond supply, really, from sovereign bonds in the developing world. and that’s gonna flip because the fed is now letting bonds roll off, the budget deficit is increasing, a tax cut would increase the deficit further, and to the extent that a tax cut might be stimulative to the economy, that’s bond unfriendly, because bonds don’t like economic growth and also it’s more bonds, expanding the deficit, so even more supply."

On tax hikes and risk:

"If i"m correct and i’m going to receive a seven-point bump in my tax rate, which is actually about a 15% tax increase, i have a feeling that i’m probably going to be less able and willing to buy risky assets or buy all the other things that are bubbling up these days, and maybe that side of the narrative will start showing up."

Jeffrey Gundlach: Tax plan could have unintended consequences from CNBC.

On stimulating the economy:

"While we’re not probably going to get 3% real for the year, we’ve had it for two quarters in a row. and gdp now at the atlanta fed has been bouncing around but it’s around 3% for the third quarter. when is the last time we had something like 3% growth for three quarters in a row? it’s a long time. why would you be stimulating the economy?"

Finally on bitcoin:

Precious Metal Futures" Trendline Frenzy: Are Gold, Silver, Platinum, and Copper About to Die?

Gold Futures (GC)

 

Gold futures found itself in dangerous waters during the 12/05 session as GC price action temporarily broke below 1,267 – a key support level from gold’s last two swing lows on 10/6 and 10/27.  After closing at 1,268.40, GC became the chart of the day, with price sitting just above support trendlines on both the short and long-term.  Having tread water in place by chopping around in a sideways price channel for the past two months, GC futures need to bounce immediately or may begin a lengthy plunge with a clear-cut downside drowning target of 1,215.

 

 

 

 

Silver Futures (SI)

 

Silver futures continued to sell-off for the 6th consecutive losing session; swiftly breaking down below two previous major swing lows at 16.444 (10/09) and 16.282 (08/07).  SI’s short-term technical profile has become very bearish, with silver futures floating around in ‘no man’s land’ without any meaningful support levels in sight.  While a small bounce may cool-off the current sell-off - and attempt to push ‘poor man’s gold’ prices back up into 16.50-17.00 - what’s more likely is that silver futures will gravitate towards their next major support levels.  If so, SI will be magnetically drawn down to 15.55 like Magneto lazily beckoning for a spoon. 

 

 

 

Platinum Futures (PL)

 

Platinum futures dropped for the third straight session, before finding support at the key trendline connecting the last two major swings at 895.40 (07/11) and of 906.50 (10/06).  The next few sessions will likely determine whether platinum bounces back up towards 960 and remains in a sideways price channel, or if it confirms the Super DMI™ bearish crossover and heads even lower to test long-term support at 895-905.  Price action will see a strong bounce at those levels, but a break below 895 means that 830-870 is where PL futures will be heading in early 2018.

 

 

 

 

Copper Futures (HG)

 

Dr. Copper’s technicals are the only thing we would dare think to possibly know better than Gundlach; well, maybe how to handle frustartion with a pathetically hollow fourth estate of mainstream media and maybe haircuts, but we digress and absolutely adore the art-loving Buffalo Bill suffering true Bond King.

Copper futures were simply obliterated, suffering their largest loss in a single session since 12/14/11.  If price continue to head lower over the course of this week, extremely strong support at 2.906 should provide a well-bid bounce back up towards 3.05.  If not, Copper may only delay an inevitable move down towards long-term support at 2.55 now that price has confirmed the Super DMI™ bearish crossover.

 

 

 

Check out Fibozachi.com to learn about modern technical analysis and trading indicators that actually work.

The Republican Tax Plan Is Very Swampy

Authored by Mike Krieger via Liberty Blitzkrieg blog,

Unsurprisingly, the Republican tax plan moving forward in the U.S. Congress and championed by Donald “Drain the Swamp” Trump, is very swampy.

Today’s post will highlight a few examples.

First, let’s hear some of what billionaire fund manager Jeffrey Gundlach had to say. Via Bloomberg:

Jeffrey Gundlach, chief investment officer of DoubleLine Capital, said the congressional tax plan would expand the federal deficit and help a small fraction of the U.S. population, including hedge fund managers.

 

“I’m very disappointed incidentally about the shape of this tax cut that is being proposed,” Gundlach told a gathering of industry participants at the Drake Hotel in Chicago on Wednesday. “I am just appalled that we are going to continue to have a carried-interest scheme for hedge funds.”

 

The House bill set to be voted on Thursday keeps the carried-interest tax treatment that benefits private-equity managers, venture capitalists, hedge-fund managers and certain real estate investors. During last year’s campaign, President Donald Trump had vowed to get rid of the loophole. White House top economic adviser Gary Cohn has said Trump is committed to ending the tax break.

 

“After I saw that tax bill, I lost hope with the drain the swamp concept,” Gundlach said. “The swamp keeps getting bigger.”

 

Carried interest is the portion of a fund’s profit — usually a 20 percent share — that’s paid to managers. Currently, tax authorities treat that income as capital gains, making it eligible for a rate as low as 20 percent. The top tax rate for ordinary income is 39.6 percent.

 

He called the tax plan “a cosmetic tax decrease for the middle class that will go away over time.”

Of course, none of this is really surprising. Donald Trump’s been a Wall Street bootlicker ever since he came into office, just like Barack Obama before him.

But there’s much more swampiness to be had. For example, there’s the fact that the corporate tax rate cut is permanent, while the individual cut is temporary. From the Los Angeles Times:

A gambit by Senate Republicans to make a large corporate tax cut permanent by having benefits for individuals expire at the end of 2025 created new problems for the legislation Wednesday as lawmakers were still grappling with the controversial decision to add the repeal of a key Obamacare provision.

 

The decision by Republican leaders to double down on risky maneuvers to overcome budgetary hurdles with their tax overhaul threatened to put the entire effort in jeopardy.

 

Sen. Ron Johnson (R-Wis.) declared he would not support the bill because it treats large corporations differently than many small businesses, which pay taxes through the individual code.

 

“If they can pass it without me, let them,” Johnson told the Wall Street Journal. “I’m not going to vote for this tax package.”

 

He later said he hoped “to address the disparity so I can support the final version.”

Here’s some more on what Ron Johnson’s complaining about, via CNBC:

Johnson said he’s been working for months behind the scenes to make changes, but he added that he’s not going to let his “version of perfect” sink tax reform. “I want to get this thing fixed, and vote for pro-growth tax reform that makes all American businesses competitive globally,” he said. “I care deeply about this country, I care deeply about this deficit.”

 

As a former small business owner, Johnson said he’s particularly concerned about the so-called pass-through rate, in which the profits and losses of sole proprietorships, partnerships, and S-corporations “pass through” to their owners who are then taxed at individual income-tax rates, currently as high as 39.6 percent.

 

“We can’t leave anybody behind, which is why they came up with the 25 rate for pass throughs,” he said. “The problem is, neither the House or the Senate version really honored that commitment to pass-through businesses, which I argue are a huge engine of economic growth.”

 

“I don’t have the information on how much it would cost, how many pass-through businesses are being left behind that do compete globally. I can’t get the information. I’ve been asking. They don’t give it to me,” said Johnson, chairman of the Senate Homeland Security Committee.

Moving on, if you’re still in denial that this “tax reform” was written for oligarchs and mega corps, take a look at the reaction of former Goldman Sachs executive and Trump’s White House Economic Council director, Gary Cohn, when his audience of corporate executives were asked a simple question.

As Zerohedge perfectly summarized:

The eagerness to shift incentives away from buybacks to capex is also the basis for much of Trump’s economic policy as designed over the past year by his top economic advisor, former Goldman COO Gary Cohn who is the White House Economic Council director. In fact, the motive behind the administration’s entire push for tax reform (cutting corporate tax rates) and offshore cash repatriation, is to the funds domestically, though not on buybacks and M&A (which also leads to “synergies” and other headcount reductions), but on reinvesting the funds in growing one’s business and hiring.

 

Which is why we were amused to observe the following brief interchange yesterday between Gary Cohn and an audience made up of executives, where in the span of a few seconds Gary Cohn realized that his entire economic policy had been a disaster.

 

During an event for the Wall Street Journal’s CEO Council, an editor at The Wall Street Journal asked the room: “If the tax reform bill goes through, do you plan to increase investment — your company’s investment, capital investment?” He asked for a show of hands.

 

Alas, as the camera revealed, virtually nobody raised their hand.

 

Responding to this “unexpected” lack of enthusiasm to invest in growth, Cohn had one question: “Why aren’t the other hands up?"

 

 

Ironically, Cohn’s epiphany took place just as tax reform is approaching the final stretch in Congress and it increasingly appears that at least some form of corporate tax cut will be enacted. We say ironically, because the only thing Trump’s reform will achieve is to dramatically accelerate recently slowing buybacks, which in turn will push stocks to new all time highs as price-indescriminate CFOs and Tresurers tells their favorite VWAP trading desk to just “wave it in.” Which means that the White House paper suggesting corporate tax cuts will boost household income is correct… if it focuses only on the incomes of the richest 1% of households.

Don’t despair, I promise there’s something in there for the average joe. For instance, after years of repression, owners of private jets will finally get that tax break they desperately need.

The Hill reports:

The latest version of the Senate Republican tax reform bill includes a break for companies that manage private jets.

 

A measure in the Tax Cuts and Jobs Act would lower taxes on some of the payments made by owners of private aircraft to management companies that help maintain, store and staff those planes for owners.

 

The language would exempt owners or leasers of private aircraft from paying taxes on certain costs related to the upkeep and maintenance of the jets, according to a description from the Joint Committee on Taxation.

I know, Congress sells out to special interests pretty cheaply. Fortunately, Rep. Joe Barton of Texas is looking out for the plebs.

Texas Rep. happy about tax bill because he gets to build a new colosseum. pic.twitter.com/eeq88tLJB5

— Michael Krieger (@LibertyBlitz) November 16, 2017

Meanwhile, a recent Quinnipiac showed that this oligarch giveaway isn’t particularly popular. How surprising.

The WSJ reported:

In a new Quinnipiac poll, 25% of American voters approve of the Republican tax plan, compared with 52% who disapprove.

 

Among Republicans, support was 60%.

 

President Donald Trump has cast the tax plan as a boon to middle-class households. Nearly 60% of American voters in the Quinnipiac poll believe the Republican plan favors the rich at the expense of the middle class.

 

About 24% of American voters say the middle class will mainly benefit from the tax plan, while 61% say the wealthy would be the primary beneficiaries.

 

About 36% of voters believe the tax plan will propel economic growth, while 52% don’t believe it will.

But here’s the best part. Former Goldman Sachs partner, Steven “Let them Eat Cake” Mnuchin, doesn’t want to hear it.

Asked whether Senate Republicans have 51 votes to pass the bill as it stands, Mr. Mnuchin said, “I am confident we are going to get this passed in the Senate.”

 

Mr. Mnuchin brushed aside suggestions that the bill is unpopular, refusing to comment on a Quinnipiac poll showing 16% of voters believe the bill will reduce taxes.

 

He also said “virtually everybody in the middle class will get a tax cut,” and that only “people who are making more than $1 million in high-tax states who will be making more.” Even people in high-tax states would reap the benefits of a lower corporate tax rate and other changes meant to help businesses that will boost economic activity, he said.

Guess he missed the recent video of his buddy Gary Cohn.

The more people learn about this monstrosity, the less they like it. Unfortunately, by that point it’ll be too late.

You lose again America. Make Wall Street Great Again.

*  *  *

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Why We"re Buying Physical Gold with a $1700 Target

Originally on marketslant.com

For What it is Worth: We are buying Gold in our small family fund. This is a trade, not an investment. Potentially a much longer term trade for us than normal, possibly a 12 month hold as opposed to our 3 day positions. We are buying physical in quantities that will not need to be sold if we are wrong, thus no leverage. We will also be swing trading gold with an upward bias as our indicators dictate below $1260 or above $1306.

Target  picking is risky in an asset whose value is largely based on sentiment and prone to being "jawboned" into its proper place. But we believe for various reasons that if Gold does not pierce $1260 spot, its chances of a rally topping between $1450 and $1700 are strong over the next 12-18 months. The wide target range reflects the emotional factor in Gold"s behavior far outweighing supply, production costs, and its lack of fundamentals to measure using tools like EBITDA, PE, and cash flows. And our own analysis is corroborated from several different disciplines from whom we did not seek out to rationalize. It"s a trade, that"s all. But it"s a very good and very rare risk reward trade. it has set up right now. Further, it will either be violently and decisively confirmed (or negated) above $1306 or below $1260.

Why are we sharing this? That same question should be asked of Ray Dalio, Jeff Gundlach and others who announce they are bullish on Gold after they have  bought. Our own position is not relevant to the market overall and we do not need to market our tiny positions to create an exit strategy a la George Soros.  The premise for the trade happens so rarely its worth writing about, if for no other reason as an exercise in outsourcing our self-discipline on the trade. 

Vince Lanci for SKG

vlanci@echobay.com 

Here is how  we came to be this way.

Step 1: Volatility is Coiling

When trading short term periods, intraday and intraweek, we use a volatility system for alerts to incipient movement. We risk 1 to make 2 and move  on when wrong. It works about 50% of the time. it is net profitable. And best of all, positions that are in limbo are closed expeditiously. This is after all a volatility system. No vol, no position. It"s been cited here many times in the past. When it is right, it is very right. when it is wrong, you are out. Past posts and a 25 year track record of use bear this out from our active days.  The bottom of this post goes into more detail on its use.

What we never did at Echobay or its predecessor fund CIS Energy, was use it on long term charts. We certainly looked at them, but only for bias in shorter term trades.  Last month we took a serious look at our VBS algorithm on a monthly chart. Here is what we found:

Updated from : Gold Macro Analysis: A November to Remember

Gold has a  tremendous risk reward setting up above $1306 or below $1260..... which way from there is not known but can be handicapped once either number is breached

for a nexplanation of VBS see bottom Appendix

Step 2: How Equity Funds Play Gold

Portfolio managers at large equity funds who have contributed here anonymously use systems that advise them when being in cash as opposed to long stocks is prudent. What is also known is that funds like these  punt gold positions with their discretionary in-house money for fun.

They use similar systems for entry and exit, and never risk much in their positions. Gold is a hobby to these guys. As a result, they like to buy and walk away with long term trade orientations and firm stops. This means using long  term moving averages to avoid noise. We know this is true.  And here is an example of how that type of positions is implemented:

 In a recent interview a vocal critic of the Gold industry explained why he was buying Gold

…Gold is poised to close above its 12-month moving average for the second straight month. Going back to 1970, the average monthly return for gold following a close above the 12-month moving average is 1.47%. The average monthly return following a close below the 12-month moving average is -0.15%.

If you used the simplest of trend-following methods, investing in gold when it was above its 12-month moving average, and going to cash when it is below, the results would have been far better than just buying and holding gold. He continues:

The chart below shows when you would have been invested in gold and when you would have been out. Granted, prior to GLD, this could only have been done with futures contracts, or gold bullion, with the former adding a degree of leverage that I would not have been comfortable with, and the latter adding a degree of paranoia that also would have made me uncomfortable.

Full post : Vocal Critic Explains Why He is Buying Gold

About Physical vs. ETF: While we agree with the rationale behind GLD vs futures if you are trading and not investing, we feel for multiple reasons the physical gold market is going to open up and become a serious competitor to ETF allocations within 12 months. Specifically, blockchain products are coming,  and if properly implemented as a pipeline, owning physical gold not held in trust by a GLD custodian will be as easy as clicking a mouse. You will buy and sell physical Gold that will be yours and verified via the blockchain system.

So for us, physical gold now has the benefit of increased  liquidity on the horizon, which means increased transactions and exposure. Which ultimately means decentralization of the Gold market from a few large firms to grass roots stackers, owners, and value preservers. We view emerging technologies as putting physical assets in a position to  have their true value unlocked. Whether that be the tea farmer in India who can"t currently get a loan on his land due to government rules, to Silver whose value is somewhat disconnected from its  price. The effect will not be unlike when a private company goes public. Accessibility and liquidity creates safety and increases demand. Owning physical metals is like owning a beneficiary of technology down the road.

Monthly Chart Through July 2017 using the 12 Month MA described above

 

Step 3: Optimizing the Simple 12 month MA Tool

by optimizing the MA with one factor we back tested greater successes when in trades. Conversely, we were also in less trades. On balance it was a wash. But right now the employed filter says the 12 Month MA has bigger upside than the average if profitable at all. A rare chance to buy close to the level the fund punters did with a statistical chance of greater profits than the  1.47% monthly average  generated by the original backtest.

Updated and Optimized by the Author

 

The chart below shows the hypothetical results from each of the 30 exits following an entry (going back to 1970). Using these rules would have resulted in a loss two-thirds of the time. But as you can see, the losses have been relatively shallow, not exceeding 10%, while the gains have been good to extraordinary.

Step 4: Using VBS for Confirmation of Direction

Simply put: If we get a VBS signal trigger when $1306 trades, a decision must be made to add, sell, or hold based on the data that comes with the signal. If we get one on a $1260 print, the same must be assessed. 

 

Step 5: Actions

1. We are buying Gold now based on the "Fund Finder" signal with a monthly stop out below the yellow line in that chart above.


2. $1306- we will consider adding a shorter term amount in a rally if the monthly VBS is triggered higher


3. $1260-  we will consider either adding physical, or selling paper Gold for swing trading purposes if the VBS is triggered lower.


4. Per #1- we will close or hedge the first physical purchased on a monthly settlement below $1244 - the wide berth on monthly exits necessitates no leverage 

 

Bonus: Moor Analytics comes to a similar conclusion from a different perspective.

Moor Analytics: Gold Downside May Finally be Exhausted

Within the overall bearishness I noted that a possible area of exhaustion for this move down from 13624 comes in at 12732-644.  We basically held this, but with a $1.6 violation, and rallied to 13084 before rolling over and rejecting from it again (although this time down the 12628 was simply support, not exhaustion)

And Michael"s most recent weekly report of Nov. 10th

Via Moor Analytics:

I would note that we broke above a well-formed macro line in the week of 8/7 that came in at 12629. The

break above here projects this upward $183 minimum, $501 (+) maximum—the maximum to be attained likely within 9-12

months. This line comes in at 12357 today. I am late to the game on this, but we were only $18 from the original breakout

when I mentioned this, and have a lot of room to go in the projection.

 

Appendix

 

What is VBS?

• Volatility Based Risk Reward Generator

+ Originally developed as an alert to when the risk of being short implied volatility is larger than being long it, and vice-versa

+ It is a probability model that handicaps risk reward

+ As a by-product of its original purpose, it gives risk/reward scenarios in market direction. 

+ Due to its accuracy in predicting volatility expansion, directional applications are right or wrong quickly and is very useful in efficient use of capital

 

How VBS Works

• Time is precious, Price is noisy, Volatility is less so.

+Volatility is less noisy than price, therefore more reliable as an indicator. 

+Volatility cycles more cleanly and  can be seen to "inhale and exhale" when viewed graphically with Bollinger Bands

+VBS is based on several relationships between historical and implied volatility  across different time frames

+ It can  be applied by traders on any time frame

 

VBS and Direction

• It doesn"t predict price, only speed of movement

+It gives non-directional alerts and was initially developed for optimizing option portfolio risk.

+While not predictive directionally, VBS gives as a by-product excellent risk-reward setups for directional plays

 

VBS Process

• Radar, Alert, Trigger, Entry, Exit

1. Radar- VBS generates 2 prices, one above and one below current prices for a "breakout" in market volatility 


2. Alert- One of the prices is breached and closes its bar/ candle beyond that price level.


3. Trigger- Real volatility will expand
   
   • Market direction does not have to continue in the direction the price in #1 was broken
   
   
   • volatility based risk- reward prices are generated for directional use. I.E. Risk 1 to make 2
   
   


4. Entry- using the  VBS risk/ reward generated levels, a decision is made to either go with the directional trend, against it, or do nothing
   
   • The trigger gives 2 bites at the apple if the trader so desires.
   
   
   • In "first way, wrong way" scenarios reversal levels are generated (N.B.- our preference is to not play the reversal and have left money on the table in favor of the trauma of being "chopped up". if compelling, we have used options to remain in the game on reversals)
   
   


5. Exit- is either from a stop-out, a profit capture, or a time limit
   
   •  Stop-Loss- are generated by VBS and adhered to religiously. Profitable trades trail stops higher based on expanding volatility
   
   
   • Profits- exits can be subjective, we prefer taking 90% of position at target and leaving a tail if the VBS is not signalling Vol is overbought
   
   
   • Time Exit- trades  that are neither profitable  nor stopped out are exited  in 3 bars/ candles. The signal is designed for quick confirmation / rejection of the trigger
   
   

Good Luck

About the Author: Vince Lanci has 27 years’ experience trading Commodity Derivatives. Retired from active trading in 2008, Vince now manages personal investments through his Echobay entity. He advises natural resource firms on market risk. He pioneered and executed the Nat Gas EOO arbitrage trade of 2006 to 2008, netting over $90MM for a NYC hedge fund before retiring. Over the years, his expertise and testimony have been requested in energy, precious metals, and derivative fraud cases. Lanci is known for his passion in identifying unfairness in market structure and uneven playing fields. He is a frequent contributor to Zerohedge and Marketslant on such topics. Vince contributes to Bloomberg and Reuters finance articles as well. He continues to lead the Soren K. Group of writers on Marketslant.

vlanci@echobay.com 

"The Leaders Are Crashing" - It"s Not Just Junk Bonds That Have Given Up

We have been warning about significant divergences between equity prices and other asset classes for a few weeks (most notably the decoupling from equity risk and credit risk, junk bonds), but as BofA notes its not just these assets that are breaking away from soaring Nasdaq levels, in fact many of the rally"s leaders are crashing... in a way we have not seen recently.

High yield risk has suddenly decoupled from equity markets...

And Jeffrey Gundlach has been warning something"s got to give. Based on the past two days, looks like we have our answer.

Stocks fell around the world a second day and high-yield bonds headed for a fourth straight loss, resuming a historic correlation that the hedge fund manager on Wednesday had warned was alarmingly out of whack.

“JNK ETF down six days in a row, closing near its seven month low,” the DoubleLine Capital LP co-founder wrote on Twitter Wednesday. “SPX up five of last six days, closing at an all time high. Which is right?”

In fact the correlation between these two leaders has crashed...

In the past decade, there were only three other instances where the relationship between JNK and mega-cap tech broke down to this degree. Each time, the two assets began to resume their positive correlation within four to 12 days, data compiled by Bloomberg show.

But given the last few days in equities and credit... High Yield Bond prices (HYG) are at 8 month lows...

On record dollar volumes of trading...

Gundlach is calling a win...

“A material pullback would be something we need to watch for, as a deteriorating credit market has led each of the largest equity pullbacks since 2014,” said Frank Cappelleri, a senior equity trader and market technician at Instinet LLC.

 

“With divergences once again apparent now, the bulls face their latest test.”

It"s not just credit risk, but equity risk has decoupled from equity prices too...

VIX has started to creep higher but has further to go to fit with credit risk...

But it"s not just high yield bonds, price leadership has been stung in recent days: Oct 26th/27th ECB announced "tapering", Brent broke $60/b…concerns of "peak policy" stimulus & "peak profits"caused toppling of credit, bank, tech "leadership"; sell-off sequence past few weeks = 1st EMD, 2nd HYG, 3rd SX7E, 4th BKX, and #5 SOX...

As BofA"s Michael Hartnett notes, watch EMD & HYG in particular...needs to stabilize... but the recent pullback also follows insane gains...

FAANG+BAT market cap up $1.5tn YTD, a sum larger than entire market cap of DAX ($1.4tn); and Aug saw all-time low yields in US HY tech bonds (4.3% H0TY) & EU HY corp bond yields hit low in Oct (2.1% HE00, i.e. lower than yield on US Treasuries).

Finally, in case you think this is all much ado about nothing. The last time we saw such a divergence between credit and equities was in Aug 2015...

Just two weeks before the huge ETF  flash crash.

Gundlach Warns "The Order of The Financial System Is About To Be Turned Upside Down"

"I"m not a big fan of bonds right now," may seem like an odd way for the so-called Bond King to begin, but in an audience at Vanity Fair"s Establishment Summit, DoubleLine"s Jeff Gundlach told Bethany McLean, "I haven’t been really [a fan of bonds] for the past four years, even though I manage them, and institutions have to own them for various reasons."

Gundlach urged investors to be “light” on bonds.

As Vanity Fair"s William Cohan reports, Gundlach admitted “I’m stuck in it,” of his massive bond portfolio, adding that interest rates have bottomed out and been rising gradually for the past six years.

Gundlach said his job now, on behalf of his clients, “is to get them to the other side of the valley.”

When the bigger, seemingly inevitable hikes in interest rates come, “I’ll feel like I’ve done a service by getting people through,” he said.

 

“That’s why I’m still at the game. I want to see how the movie ends.”

But it can’t end well. To illustrate his point about the risk in owning bonds these days, Gundlach shared a chart that showed how investors in European “junk” bonds are willing to accept the same no-default return as they are for U.S. Treasury bonds, pointing out that this phenomenon has been caused by "manipulated behavior" by central banks.

European interest rates “should be much higher than they are today,” he said,

“...[and] once Draghi realizes this, the order of the financial system will be turned upside down and it won’t be a good thing.

 

It will mean the liquidity that has been pumping up the markets will be drying up in 2018...

 

...Things go down. We’ve been in an artificially inflated market for stocks and bonds largely around the world.”

“My job is to find scary things,” Gundlach told McLean...

“My critics say, ‘You find seven risks for every one that exists.’ Guilty. That’s my job. My job is to try to find out what can go wrong, not cover my ears and hum. It’s better to keep your eyes open.”

Trump Expected To Announce His Pick For Fed Chair In Next Two Weeks

In the latest update on Trump"s search for the next Fed Chair, Reuters reported that the search has narrowed down to 5 finalists - Yellen, Warsh, Taylor, Powell and Cohn (condolences to Jeff Gundlach: his dark horse candidate, Neel Kashkari did not make the cut) - and that after meeting Yellen on Thursday, Trump will have discussed the Fed job with all five candidates. More importantly was the news that Trump is expected to announce his decision for next Fed Chair in the next 2 weeks, before he leaves for his Asian trip on November 3.

• YELLEN, WARSH, TAYLOR, POWELL AND COHN ALL CANDIDATES FOR FED CHAIR -WHITE HOUSE OFFICIAL


• FED CHAIR SEARCH NOW NARROWED TO FIVE FINAL CANDIDATES, WHITE HOUSE OFFICIAL SAYS


• AFTER YELLEN MEETING, TRUMP WILL HAVE DISCUSSED FED JOB WITH ALL FIVE FED CANDIDATES -WHITE HOUSE OFFICIAL


• TRUMP EXPECTED TO ANNOUNCE FED DECISION BEFORE HE LEAVES FOR ASIA TRIP NOV. 3 -WHITE HOUSE OFFICIAL

Yesterday, the USD and bond yields turmoiled briefly following news that Trump had warmed to the candidacy of San Fran professor John Taylor, father of the Taylor Rule and advocate of rules-based monetary policy, and who is widely perceived as a mega hawk. The news sent the USD surging and hit bonds.

That said, Taylor"s hawkishness appears to have worked against him, and after surging to 2nd spot on Predictit yesterday, Taylor was tumbled to 4th spot this morning.

That said, Taylor"s hawkish reputation may be unwarranted. As SocGen"s Kit Juckes wrote this morning, what rate the Taylor Rule indicates is dependent on a variety of assumptions. To wit:

President Trump is reported to have taken away a favourable impression of John Taylor after he met the Stanford University economist and inventor of the ‘Taylor Rule". As the President ponders who to appoint as the next Fed Chair, he now only has Janet Yellen to meet with, and Professor Taylor is the new market favourite. That, in turn, has given the dollar a bit of support and sent yields a bit higher as everyone contemplates what the Taylor Rule would imply for monetary policy. It"s generally concluded that a rules-based approach would deliver higher rates faster than we would see under the current policy framework.

Anyone armed with a Bloomberg terminal can type in TAYL GO and see where a Taylor rule estimate of appropriate rates is, and if they want, they can play with the critical elements of the rue - the estate of ‘neutral" real rates, NAIRU, and the inflation target. On the basis of a 2% neutral real rate, and a 4% NAIRU, the Fed is a long way behind the curve, which may be reason enough to think that a Taylor Fed would be more hawkish. On the other hand, lower the NAIRU (which may be reasonable given what we"ve seen from the labour market data in recent years) and you can get that estimate down. A 3% NAIRU throws out a 1.5% Funds rate, for example. And if Professor Taylor really wants to fine-tune his rule, he can head down the road from Stanford to the San Francisco Fed, 36 miles away, and have a chat with Stanford alumni and head of the San Francisco Fed, John Williams. He developed an estimate of neutral rates with Thomas Laubach, which moves over time and is currently at -0.2%. See Professor"s comments on a debate about that here . Plug Williams-Laubach"s R* into Bloomberg"s TAYL function with a 4% NAIRU and rates ‘should" be 0.5%. Now cut NAIRU to 3% and we"re at -0.75%. By way of indication, I"ve plotted some variants of this below, though I haven"t adjusted the Wiliams-Laubach R* all the way through the time series so they are only relevant in the recent past. The lesson is clear however - the rule"s just a rule, it"s how it"s used that matters.

Choose your rule - but neither R* or NAIRU are necessarily constant through time

For now, however, Taylor"s hawkish reputation precedes him, and - for a president who realizes he needs rates as low as possible for as long as possible - that will hardly boost Taylor"s application. In fact, as we noted yesterday, the most likely outcome at this point is that Trump simply asks Yellen to continue for one more term.

California's "Wine Country" Could Take Years To Recover From Deadly Wildfires

Wildfires that have been raging across Northern California’s “wine country” since Sunday have destroyed at least four wineries and seriously damaged at least nine more just as the season’s harvest came to an end. The damage could leave one of the state’s signature industry’s hobbled for years, according to NBC.

Of course, assessing the scope of the damage will be impossible until the fires subside. The Napa Valley Vintners trade association has not heard from all members, especially those in the most vulnerable parts of the valley.  By the time the fires started on Sunday – accelerated by dry conditions and strong winds -about 90% grapes had been picked. And most of the remaining crop of thick-skinned cabernet sauvignon grapes not expected to be affected by the smoke.

Most wineries remain closed from power outages and mandatory evacuation orders.

What remains of the Signorello Estate winery...

At the Gundlach Bundschu - the oldest family-run winery in California, started in 1858 - in Sonoma County, workers were not sure whether the grapes above the winery survived the fires, Fox reported.  

Katie Bundschu, a sixth-generation vintner, recounted a scary Monday night in which the flames licked at the perimeter of the winery but were beaten back by firefighters. A century-old redwood barn and her grandmother"s 1919 home were spared.

"The winery was in the path of the fire but escaped being engulfed by the flames. We have some damage to fix. The wine is secure in our cellars. We are cleaning up and hoping to have the power back on this week," Bundschu said.

However, Bundschu said that her winery, while damaged, will soldier on, and was seeking to dispel rumors that the business had been utterly destroyed. With information from the affected areas trickling out, a few other wineries have sought to inform customers that their facilities can be quickly repaired and expect to be back in business soon.

Burned out wine bottles at Signorello Estates

Millions of locals and out-of-staters flock to Napa and Sonoma counties every year to sample wine, sit in mud baths and soak in the region"s natural beauty.

Even one of the four wineries that was reportedly destroyed by the fires, the Signorello Estate winery in Napa, may recover. According to Fox, its vineyard appeared to be untouched by the flames.

Signorello Spokeswoman Charlotte Milan could only confirm damage to the winery and a residence. Fortunately, the estate"s 2015 reds and 2016 whites were stored off-site.

Burned out wine bottles at Signorello Estates

Not every winery was so lucky. The Paradise Ridge Winery in Sonoma County posted that it was "heartbroken" to announce that the facility had burned.

About 12% of grapes grown in California are in Sonoma, Napa and surrounding counties, said Anita Oberholster, a cooperative extension specialist in enology at the University of California, Davis. However, the grapes grown in those counties are of the highest quality and are used in the most state’s most expensive wines.

Since the year’s harvest had already been mostly completed by the time the fires broke out, the fire did little damage to crops, though it would’ve presumably destroyed stocks of harvested grapes and wines that have already been bottles.

What"s left of the Signorello Estate winery is seen through a window

Also, since the soil was unaffected by the fires, next year’s crop should be unharmed, Oberholster said.

Sara Brooks, chairwoman of the Visit Napa Valley Board of Directors and general manager of the historic Napa River Inn, said she has had some cancellations, but expects tourism to bounce back as it did after the 2014 Napa earthquake.

"It"s heartbreaking," she said, "It"s tough to see these places you"ve seen your whole life on fire."

However, for some vineyards, the process of rebuilding could be painfully slow. At least 15 people have died from the fires, while 150 more remain missing. More than 1,500 buildings have been destroyed.

Federal Reserve President Kashkari's Masterful Distractions

Authored by MN Gordon via EconomicPrism.com,

How is it that seemingly intelligent people, of apparent sound mind and rational thought, can stray so far off the beam?  How come there are certain professions that reward their practitioners for their failures?

The central banking and monetary policy vocation rings the bell on both accounts.  Today we offer a brief case study in this regard.

Minneapolis Federal Reserve President Neel Kashkari is a man with strong convictions.  He’s what the late Eric Hoffer would’ve classified as “the true believer.”  According to Hoffer:

“It is the true believer’s ability to ‘shut his eyes and stop his ears’ to facts that do not deserve to be either seen or heard which is the source of his unequaled fortitude and constancy.  He cannot be frightened by danger nor disheartened by obstacle nor baffled by contradictions because he denies their existence.”

For starters, Kashkari believes the Federal Reserve, an unelected board of appointments, can crunch economic data into pie graphs and bar charts and draw conclusion as to what they should fix the price of credit at.  Moreover, he believes that by fixing credit at the “correct” price, the Fed can somehow “optimize” the economy.

This idea is patently false.  Remember, the economy is comprised of billions of people with ever changing interactions.  Activities and exchanges are always adapting.

What may be the correct price of credit at one time is precisely the wrong price of credit at another.  Only a free market for credit, where rates are agreed to by willing borrowers and lenders, and unobstructed by government decree, can self-correct in real time to properly meet changing demand.

Well Considered Conclusions

But even if it were true that economic data can be used by the Fed to properly fix the price of credit, there’s an even greater leap of faith that Kashkari takes with unequaled fortitude.  Specifically, Kashkari whole-heartedly accepts data that’s contrived by federal bureaucrats as if it’s the gospel truth.  These fabricated abstractions are what Kashkari and his cohorts use as the basis for fixing the price of credit to their liking.

No doubt, the methodology of using economic data to identify apparent aggregate demand insufficiencies and perceived supply gluts is flawed.  Unemployment.  Gross domestic product.  Price inflation.  These data points are all fabricated and fudged by people with their own biases and prejudices.

For each headline number, there are a list of footnotes and qualifiers.  Hedonic price adjustments.  Price deflators.  Seasonal adjustments.  Discouraged worker disappearances.  These subjective adjustments greatly affect the results.  So, what good are they?

On Monday, in an article titled, My Take on Inflation, Kashkari demonstrated his full faith and convictions in government data – and the Fed’s ability to use it to pilot the economy.  We won’t waste your time with his many rambling explanations.  But in the spirit of observing a lost man navigate through the wilderness using butterflies as reference markers, we offer Kashkari’s well considered conclusion:

“If I am correct that the Fed’s own actions are an important factor driving surprisingly low inflation and falling inflation expectations, the implication is that our policy should focus on supporting inflation to ensure that we are on track to return to our 2 percent target.  My preference would be not to raise rates again until we actually hit 2 percent core PCE inflation on a 12-month basis, unless we have seen a large drop in the headline unemployment rate signaling that we have used up remaining labor market slack, or a surprise increase in inflation expectations.”

Do you follow the logic?  If not, consider it confirmation that your brain hasn’t been turned to mush by what passes today as learned economic thought.

Federal Reserve President Kashkari’s Masterful Distractions

Indeed, these are the words of the true believer.  There’s no consideration that the data’s garbage.  Kashkari likely never considered the possibility.

Instead, he goes about his dubious profession with the certainty of a carpenter hanging kitchen cabinets.  But unlike the carpenter, Kashkari doesn’t need to measure twice as to cut once.  He operates with unmatched precision.

Kashkari, without question, is a true believer in extreme economic intervention.  If you recall, as federal bailout chief, he functioned as the highly visible hand of the market.  In early-2009, he arrived at work each day with a smile and went about the business of rapidly dispersing Henry Paulson’s $700 billion of TARP funds to the government’s preferred corporations.  He did so under the pretense that he was destroying capitalism to save it.

Yet it’s questionable work experience like this that allows a person to rise to the level of a Federal Reserve President.  Moreover, if Kashkari continues his zealot dedication to his craft, there’s no reason he won’t ascend to Fed Chairman or Managing Director of the International Monetary Fund.  In fact, Jeffrey Gundlach believes Kashkari will be the next Chairman of the Federal Reserve.

The point is, Kashkari and his cohorts have pushed public and private debt well past their serviceable limits.  They’ve debased the dollar to less than 5 percent of its former value and propagated bubbles and busts in real estate, stock markets, emerging markets, mining, oil and gas, and just about every other market there is.  At the same time, they’ve been remarkably successful at enriching private bankers.

Hence, the true believers that keep the charade going via pseudo academic distractions about inflation targets, headline unemployment, labor market slack, supply gluts and other aggregated nonsense, are promoted for running interference.  When it comes to being a tool for the big banks, Kashkari’s distractions are masterful.

"There Are No Bears Left... None... Not A Soul"

By Kevin Muir via The Macro Tourist blog,

Think back six months. Do you remember all the warnings from the legendary hedge fund managers about the impending stock market doom?

Paul Tudor Jones, Scott Minerd, Larry Fink, Seth Klarman, the list is long but distinguished. At the time I penned It’s too easy to write bearish pieces. Even in late summer, gurus like Gundlach were bragging about the 400% he would make on his S&P 500 put purchases - Billionaire Bears. Given the atmosphere, I knew posts about the coming collapse would be greeted with tons of words of encouragement. Yet if I wrote something about the stock market continuing higher, crickets… Or worse yet, remarks about my cluelessness regarding the problems in the global financial system.

I didn’t think stocks were going higher because everything was roses, no in fact just the opposite. Stocks were being pushed higher because everything was so FUBAR’d. Central Bank balance sheet expansion was pushing risk assets higher, and for the longest time, everyone wanted to fade it.

Fast forward to today. Even the most ardent bears have given up and embraced the idea Central Bank buying will push stocks higher. Investors that were previously doom and gloomers are now speaking of blow off-tops. I can hear the capitulation in their voices. No more brave predictions of the coming collapse. Instead, meeker forecasts of a high volume runaway euphoria. There are no bears left. None. Not a soul.

The bears have been replaced by gloating bulls that are openly bragging about how high the S&P 500 futures will gap up Sunday night. They are mocking the bears with taunts of how much money will they lose fighting the rally. They joke about buying the dip, which increasingly is becoming more and more nothing more than a couple of downticks.

I might not know much, but I know the Market Gods do not take kindly to that sort of behaviour. What was that quote from Bernard Baruch? “The main purpose of the stock market is to make fools of as many men as possible.”

Ask yourself what would embarrass most investors right now? Would it be a continuing rally? Not a chance. Given the white flag waving by the bears, and the over-enthusiasm of the bulls, there is little doubt in my mind that a stock market decline is what would hurt most. That wasn’t the case six months ago. Heck, it wasn’t even the case two months ago. But that’s where we are today.

I could try to dig up some sentiment numbers, but the reality is I don’t need to. The mood is plainly obvious. Investors are as bullish as they have ever been since the Great Financial Crisis. Sure, you might argue that it was much more frothy in 1999. But who cares? Do you really want to be buying based on the greater fool theory? Ask Chuck Prince how that turned out.

It’s hard standing alone and fighting the crowd. If it was easy, everyone would do it.

I have written about the new reality of how markets are now full of A Series of Rolling Mini-Bubbles, but a sharp Seeking Alpha writer by the name of Ian Bezek has done a better job than me of identifying the latest madness. In his post, An ETF Levitates: This is Not Normal, Alex points out that the IWC nano-cap ETF has been up 26 of the past 28 days.

This is the new reality. A series of rolling mini-bubbles. But you want to know the hardest part? Just when it looks best, is the time to fade it.

I can already hear you saying to yourself, that’s a big leap. Selling it because it looks good? Well, in case you don’t believe me about the series of rolling mini-bubbles (remember, the keyword is mini), how about this for a reason?

Almost everyone has now embraced the idea that Central Banks will push asset prices to the moon. It’s like they just realized that with the balance sheet expansion of the ECB, BoJ and the SNB (Swiss National Bank), the monetary stimulus has been higher than any time except for the initial days of the crisis.

One thing before I continue. For these Central Bank balance sheet charts, I have frozen the currency adjustments in time. If I let them float, then the balance sheet size will move around as the US dollar rises or falls. Since we are interested in how much the Central Banks are expanding or shrinking their balance sheets, this would lead to a distorted monthly change.

Let’s zoom in and have a look at this a little bit more closely.

It’s a little bit amusing that market pundits are now shouting about the inevitability of Central Bank buying. The reality is that from mid-2013 to 2017, the pace at which their balance sheets have been expanding has been ferocious.

The ironic part? All these pundits have figured it out just as the pace has started to slow. Look at the last six months. Slowest six month period in the last few years. And guess what? It will be negative soon enough. The ECB will taper, the Fed will shrink, and if financial assets keep screaming at this pace, even the BoJ and the SNB might be forced to slow down their purchases.

So yeah, knock yourself out buying stocks because Central Banks are printing like mad. Instead of examining what they did, I am more interested in what they will do. And to me, it looks like this game is nearly over.

Nothing sums up better the crazy rush into stocks than the recent headlines.

Remember the last time the Economist came out with a bold cover like that?

So let’s sum it up.

We have the bears capitulating and accepting the inevitability of the Central Bank buying pushing up asset prices, at the very moment magazine covers are shouting about the “bull market in everything.”

We have nano-cap ETF’s rising more in a period of a month than they have ever done before.

I have former bears telling me how we need to have a blow-off top before the true bear market can start.

As far as I can tell, there is absolutely no one who thinks this market will head lower over the next month or two. Well, sold to them.

Given the dirt cheap options they are all selling to gather extra premium (it’s free money after all - stocks never go down), I think taking the other side of their trade via long put positions is a great risk reward. I know this trade is lonely. Jeez, as I write this, a little bit of me wonders if I have gone insane.

But I take comfort in the words of a famous speculator, Jesse Livermore - “The obvious rarely happens, the unexpected constantly occurs.”

Then again, Livermore killed himself in the cloakroom of the Sherry Netherland Hotel. He left a note that he was tired of fighting. Good thing Jesse isn’t around to see this bull market.