Cause and Effect

According to Citi, if you were to buy, at random, any developed market government bond around the world, there is a one in three chance you’d lose money if you held onto it until it matured. That is, about a third of all developed-country government debt—or more than $7 trillion, in terms of market value—is now trading at negative yields. Quite simply it means that investors are paying Governments to lend them money. Seems like another form of taxation to me or bad investing. Let me see, give ‘em $100 and a few years later getting back $99.  Sounds good? It has been estimated in the euro zone, more than half of all outstanding bonds are priced as such.  Am I the only one who finds this more than weird or that people are actually even considering handing over their money?

At least here in the US, our entire yield curve is positive (for now). It makes sense that smart, sensible foreign savers who would prefer not to pay to lend money, will move (at least some of) their investment capital to places that provide favorable returns. As such is there any doubt that some of that money will find a home here in US bonds? A small return with (perceived) small risk is way better than paying for a similar risk. We learned in Econ 101 that as more money chases after a good or service (in this case positive yielding bonds) you should expect a rise in prices.  How many of you think this has had an effect on our US 30-year treasury bond?  Take a look at the chart below as it affirms this thesis as it sits at all time highs

Because one of the only arrows left in Central Bankers quiver to (attempt to) stimulate growth and fight deflation is manipulating interest rate (more negative), they have boxed themseleves into a corner. And unless they can regain their sanity (yah right! me of little faith) and unwind this foolish experiment I expect the foreign inflows to grow, pushing our rates even lower and our currency higher.

This underlying theme is one reason why the stock market COULD move contrary to all fundamental logic and reason higher.  The cause and effect.

June's Charts on the Move Video

My latest video recapping notable activity in last month's markets is posted at the link below.

The summer grind continues. Still waiting for the impetus to push US stocks out of their longstanding trading range. European and Japanese equities are in serious need of a lifeline.  

https://youtu.be/0qQDRhNMfCo

Betting on Biotech Breakdown

After a spectacular bull run of almost 375% from the 2011 bottom, the Biotech index (IBB) ran out of gas topping in July of last year. You can see price created a bear flag (#1) immediately after registering its last negative RSI momentum divergence.  The flag occurred around the 200 day moving average which was flattening but still in an uptrend and had provided important support in the past. The break out of flag #1 to the downside not only created the biggest and fastest decline of any week since the 2011 bottom, but also another bear flag (#2). Patterns on top of or within patterns occur in strongly trending markets (both bull and bear). At the top of flag #2 price tried to retake the 200day moving average but was rejected and began its next leg down, settling near the $250 mark.  Since then, Biotech’s have tried to reverse the downtrend but could only muster a couple of counter trend rallies each time petering out and falling back to retest that same $250 level which tells us its hot.  Not unexpectedly as with many corrective consolidation zones, this level marks the 50% fib retracement of the 2011-2015 bull run.

As with almost all stocks, Biotech’s took it on the chin last week and have once again settled back to the $250 … for the 4th time. We know the more price tests a level (from above or below) the greater the chance it will not hold. If the Brexit scare has more downside in store for stocks, I would expect IBB to fall in sympathy and the next level of support comes in the @212.5 range some 15% lower. Again, not so coincidentally, this turns out to be the 61.8% fib extension of the ’11-’15 bull market.

Stepping back and reviewing Biotechs from 50ft, it's (now) obvious we are in a bear market with lower highs and lower lows being formed. Until we see a confirmed reversal formed from a recognizable bottoming pattern this is one investment that is on the AVOID list. That is, unless you are able to short as a breakdown below current support creates a very nice risk/reward entry.

Italy Needs Some Stickum, Otherwise Arrivederci

2016 will likely go down in the books as one of the toughest (in my experience) years to invest if you are a market technician. Technical analysis has been helpful but not anywhere near as it has been in the past. I have never experienced so many failed patterns both bullish and bearish. I believe it can be explained and chalked up to the fact the US stock market has been range bound for almost 2 years, while most foreign markets are languishing in bear territory.

The Italian stock market peaked in June 2014 with negative RSI momentum divergence falling almost 30% before it bottomed and rallied up to the 61.8% fib line. There it chopped around and formed a symmetrical head and shoulders pattern which confirmed in early Jan of this year gapping below the blue support line. It came to rest at important prior support (red horizontal line) and is once again chopping around trying to digest the 20+% decline. This is one pattern that did not fail but rather did exactly what was expected and met its objective.

While there is no pattern that has developed (yet), Italy has formed lower highs and lower lows while the 200 day moving average is steeply pointing south which screams “AVOID ME”. Because of the number of touches, we know the current (red) ~$10.75 support line is hot and if it should fail on another retest we can expect a much further decline. The first level of expected support would be another 20% lower at the July 2012 lows. Beyond that if further downside is on the table, we could see a retest of the 2009 financial crisis lows on the radar.

I believe in the short to intermediate term Europe is in deep trouble and their stock markets are a real reflection of that concern. From what I see and read Italy is in the top 5 of European countries in the worst shape. While anything can happen, the awful fundamentals combined with equivalent technicals is pointing to potential lower prices ahead. Until proven otherwise, long only investors should look at Italy with caution while those with the ability to short should be licking their chop

Occam’s Razor

“The simplest explanation is probably the right (best) explanation”

For those looking for “why” the following chart provides the best explanation as to why world equity returns have struggled this year. Virtually every major market around the world has seen a net outflow of money out of stocks since Jan 1st.

There you have it.  Until this chart gets turned upside down, caution is warranted.