We had a market that had run up for 9 years. We had valuations at nosebleed levels. We had people that didn’t sell in 2017 so they wouldn’t have to pay taxes on it in 2018. Some decided it was time to book profits. We had a lot of reasons for a correction to hit. And, hit it did.
Tuesday was an interesting day in market land. On Monday, the powers that be created a “flat” market ahead of the deluge of earnings that would start on Monday night with Google. So, Google announces, and the stock was punished a bit. While on the surface they sounded wonderful, there were things in the report they didn’t like. It was down 25 bucks.
We have a trading rule, and that rule is that we never hold a stock over its earnings release. If you go back 20, 25 years, and look at all the quarterly results, you’ll find it’s a bit of a crap shoot as to whether the street is going to like what they hear, or find something in the conference call they don’t like, etc. So, holding a stock over its earnings release “can” reward you big time. We’ve seen many 5, 10, even 40 dollar gap up opens the next day. But it can skin you just as bad. We’ve seen many similar moves to the downside. After researching it, it just isn’t worth the risk.
Well, Monday overnight, the futures improved and heading into Tuesday we had the DOW futures up about 150 and the S&P’s flirting with + 10. Sure enough we opened pretty green and gained some more after that. We had “good” earnings out of CAT, and KO. Everyone was high fivin’ each other. It “seemed” like we were going to be off to the races.
Well that lasted about 10 minutes. Then the air started coming out. From up 135 on the DOW at 9:35, we were up just 60 before 10 am. Then by 10:30 we had dipped red. As the morning wore on, the market got soggier.
By the time 1 pm had rolled around, I had seen the DOW off as much as 290 points. All the talking heads were trying to come up with excuses as to why it was happening and how it really doesn’t mean anything. But it wasn’t done. As time ticked by, and 2 pm was rolling around, the DOW was flirting with down 600 and the S&P was off over 49.
What about those companies that reported the so called strong earnings? CAT went from being up 6 dollars per share at the open, to being DOWN 10 bucks by 3 pm. KO started the day up over 4%. It was blood red. Google was down 40.
So, if we take the morning gains of say + 130, and erase all that and plunge for 600, we’re talking about a 700 point swing. In one day. What’s up with that?
That my friends is the result of robots. Algo-bots I like to call them. Before the advent of using computers to do 80% of the trading, we never had 700+ point swings in the markets. Now it’s as common as snow in winter. But what is it that’s got the Algo-bots panties in a knot? A combination of things.
First off, consider how this market had gotten to where it got. Unlike years gone by where stock prices were mostly the result of the decisions made by millions of individual investors, Pension funds, Insurance Companies, etc, things changed “bigly” over the last decade. Enter the Central banks.
20 years ago it was a joke to comment that the Central banks might actually buy stocks. People would literally mock you for suggesting that. But my how times have changed. Now the ECB, the Bank of Japan, the Swiss National bank and yeah, our own Federal Reserve have been huge buyers of “assets” ranging from mortgages, to corporate bonds to individual stocks.
When you have someone like the Swiss National Bank, that can print up a billion dollars out of thin air and buy real tangible assets such as AAPL stock, then what’s the real price of AAPL stock? The SNB doesn’t care about book to sales, or P/E or any other metric. They simply print and buy up 100K shares. Nothing to it.
So part one of why the market got to the lofty levels it got to, was simply because the Central banks were actually buyers of stocks. Part two was that by keeping interest rates so low, anyone with a pulse could borrow millions, and use the money to buy equities. Hey, if you can borrow at virtually zero, and buy enough stock to actually move the price higher, why not keep doing it? And they did.
Then of course part III was stock buy backs. Because of the incredibly low interest rates, companies themselves would borrow billions and use that money to buy up their own stock. When they do that it reduces the amount of stock available to the public pool, and pushes the stock price higher. ( less supply = higher price)
There are a few other things we can put in the mix. The market had a lot of momentum, powering up from the 2008 crash, and with all the powers lined up to keep pushing it higher, people forgot the idea of “risk” and piled in. It fed on itself. Every single dip was NOT a reason to question if it had run out of gas, it was a reason to mortgage the house and buy more stocks. Momentum is powerful.
Likewise the argument about “where else are you gunna put your money??” was always in your face. “what are you gunna do, put it in the bank at 0.5%??” was a common question. So many people were pressured into putting it in stocks. All of that fed on itself.
But in January, something happened. Immediately after hitting another all time high, we put in a 10% correction. It was the first one in over 2 years, and it was the single fastest drop to a 10% correction in market history. Something had changed. What was it? Again, there’s rarely ONE thing that leads to big market moves. It’s more like a combo-platter of things and then one day for some reason they all seem to matter.
We had a market that had run up for 9 years. We had valuations at nosebleed levels. We had people that didn’t sell in 2017 so they wouldn’t have to pay taxes on it in 2018. Some decided it was time to book profits. We had a lot of reasons for a correction to hit. And, hit it did.
The common thinking was that once we corrected, we’d probably rush right back up and set more new highs. The thinking was that if you like buying the dip, this was just a bigger dip to buy. Well, it hasn’t worked. For the past 3 months, we’ve bounced, chopped, dropped, soared, rolled back down, popped, pooped, you name it. And the end result? Sideways.
Since the February 12th intra day low, we’ve had dozens of days where we’ve swung 400+ points. Many were over 600. Several over 700. Again, that’s NOT a bunch of human beings on a trading floor, shouting buys and sells to each other. No, that’s computers, and those computers are linked to “baskets” of stocks.
When you and I buy stocks, we’re usually buying one, two or three at a clip. When institutional computers buy, they might be instructed ( programmed) to buy 50K shares of 100 different stocks at a time. Well, when the algo-bots see something they don’t like, they’re also selling that sort of volume at a time. That’s why you can see them run the market up 200 points in half an hour, and end the day down 500 points. Huge swings.
Okay, so what’s got them so skittish? Again, we’ve had a long run, on cheap money, with Central bank intervention and billions upon billions in buy backs. Now however, the interest rates are rising. On Tuesday, for the first time since 2014 the 10 year hit 3%. It doesn’t take a rocket scientist to think that if falling and lower rates encouraged buying, rising rates might make them take pause.
Another big chink in the armor was the “buyback blackout” period. For most US companies, they are NOT allowed to buy up their own stocks in the period between the end of the quarter and when they actually announce earnings. So, with the quarter ending in March, and earnings really just starting a few days ago, the last 20+ days has been void of buy backs.
So we have rising rates, and a lack of buy backs working on them. Then of course one has to wonder about the actual cycle itself. While this is indeed a “different” market than your fathers simply because of the involvement of the Central banks, everyone sort of knows that all good things come to an end. Trees don’t grow to the moon. There’s a cap to everything. So there’s a lot of analysts looking at the recent earnings and figuring “that’s it, that’s as good as it gets and it’s downhill from here”.
Add all that up and you’ve got a real battle-royale on your hands. You’ve got Wall street and Central bankers that need a flat to rising market on one hand. And then you have the reality of rates, exhaustion, and ‘peak earnings’ staring at you on the other.
That push and pull, fed through the algorithms of high speed computers, is why we’re getting this form of volatility. When the robots latch onto a data point they like, they buy like mad. When they see something that goes against the program, they’re dumping like mad. They don’t have a soul. They don’t have a MEMORY. That’s important folks.
The robots look at data. There’s no human emotion. No empathy. If the headline is good they buy, if it’s bad they sell. They don’t rationalize it into consciousness of thought. Just because a headline looks good, in context, it might be contrary. They don’t analyze it that deep. Thus, we get a day like Tuesday. Up 130 in the morning, to down 619 in the afternoon, to close out the show down 425.
At this point, everyone’s got to make up their own minds as to whether we’re going to see new highs, or if this market is finally ready to roll over. It is NOT an easy choice. I can give you 100 reasons why we should plunge. I can only give you one that it should run higher. That would be Central bank intervention. More “QE” so to speak.
I tend to think we’ve seen the high of the year back in January. But calling for a “crash” is very hard. They’re actually pretty rare events. I could easily see this market push and pull for months, with the overall action being “choppy and sideways”. If we plunge below the 200 day moving averages, then yeah, things could get decidedly ugly. But even with the 700 point swings, we’re still locked between the 200 days below and the 50 days above.
I don’t think the volatility is over folks. Be careful out there. If you’re a trader, shorten your hold time, this market isn’t giving us more than a couple days in any direction. Consider using smaller positions for safety.
Finally, remember that there’s always the chance for the fat tail event. Something that comes out of nowhere to really kick us in the teeth. An EMP attack. A rogue nuke goes off. A mistake playing cat and mouse with Russia, etc. One might consider way out of the money puts just for such an event. Good luck out there, it’s a wild time.