When Terrible News Is Great News…

Thursday, 26 March 2020
Adelaide, Australia
By Bernd Struben

  • The Greenspan put
  • Markets
  • ‘It’s a trap’

Before we dive into today’s dispatch…an important reminder.

Tomorrow at midnight, Port Phillip Publishing’s free ‘Metronomic Trading Workshop’ is being taken offline.

The workshop, hosted by my good friend Simon Munton, takes a look under the hood — or bonnet, if you prefer — of Murray Dawes’ proprietary trading methods.

Murray has spent 20 years developing his trading system. One intended to trade high volatility stocks with a built-in risk management strategy.

How does he do that?

Simon and Murray take you through it step by step in the ‘Metronomic Trading Workshop’.

You have until midnight on Friday to access the full four-part online series. To do so, you can click here now.

Moving on…

The Greenspan put

You’re probably familiar with the investor saying, ‘bad news is good news’.

It stems from investors’ beliefs that central banks have got their backs in the financial markets.

A slowdown in China’s economic growth outlook? The Reserve Bank of Australia (RBA) cuts rates and the People’s Bank of China (PBoC) lowers banks’ capital requirements. Stock markets recover their losses and rise to new highs.

Market wobbles over Brexit fears? (Not hearing much about that ‘disaster’ these days, eh?)  The European Central Bank (ECB) and Bank of England (BoE) lower rates and engage in QE. Pronouncements of ‘whatever it takes’ from former ECB head Mario Draghi see markets recover. Modest share price losses rise to new highs.

Donald Trump and Xi Jinping spar on trade and send markets tumbling? The US Fed and PBoC…

You get the idea.

The ‘bad news is good news’ mantra dates all the way back to 1987. When your humble editor was still toiling away at university.

I didn’t own any stocks then. But as an economics student I was well aware of the market crash.

So was Alan Greenspan. He’d only just taken over as chairman of the US Federal Reserve that year. A position he would hold until 2006.

In response to the 1987 market crisis, Greenspan lowered interest rates to help bruised companies and encourage spending. And it worked a treat.

This led to the assumption — widely true to date — that the Fed and other central banks would step in to rescue financial markets whenever trouble came knocking.

It also led to the term ‘the Greenspan put’. That has to do with how options traders can utilise put options to their advantage, knowing the Fed will intervene if markets fall to sharply.

Fast-forward to today and here we are again.

Now, to the markets…

Markets

Overnight, the Dow Jones Industrial Average closed up 494.64 points, or 2.39%.

The S&P 500 closed down 28.23 points, or 1.15%.

The Euro Stoxx 50 Index closed up 85.03 points, or 3.13%. Meanwhile, the FTSE 100 gained 4.45%, and Germany’s DAX closed up 173.69 points, or 1.79%.

In Asian markets Japan’s Nikkei 225 is down 591.71 points, or 3.03%. China’s CSI 300 is down 0.16%.

The S&P/ASX 200 is up 162.13 points, or 3.24%.

West Texas Intermediate crude oil is US$24.28. Brent crude is US$27.46 per barrel.

Turning to gold, the yellow metal is trading for US$1,610.65 (AU$2,726.22) per troy ounce. Silver is US$14.38 (AU$24.34) per troy ounce.

One bitcoin is worth US$6,736.38.

The Aussie dollar is creeping higher, worth 59.08 US cents.

‘It’s a trap’

In mid-February most major global stock indices were trading at or near record highs. Yes, that really was only last month.

Then the magnitude of the coronavirus crisis became clear. Perhaps the biggest crisis the modern world has ever faced. Both in terms of the potentially devastating loss of lives, and the potentially devastating financial ramifications of shuttering the global economy.

A much more severe crisis…and a much bigger fiscal and monetary response.

From the AFR:

The US Senate is set to vote on a record $US2 trillion ($3.4 trillion) package of measures to stoke and buffer the American economy from the worst ravages of the coronavirus outbreak.

The package was agreed to shortly after 1am in Washington on Wednesday…

It’s designed to complement more than $US4 trillion in US Federal Reserve lending support to keep America’s economy afloat…

That’s a AU$3.4 trillion fiscal response. And a AU$6.8 trillion monetary response. Atop the Fed cutting interest rates to effectively zero.

And that’s just from the US.

This week the markets are lapping it up.

The ASX 200 is again trading higher today, up 3.2% at time of writing. It’s now up 16.3% since its 10:30am intraday low on Monday. Though it’s still down 28.1% from its 20 February peak.

Remember it takes larger gains to recover from relatively smaller losses. A 30% loss takes about 43% to recoup. A 50% loss takes a full 100% gain to recoup. Hence the vital importance of risk management, like stop-losses.

That said, if you jumped into the market on Monday, you’ll be laughing.

But is terrible news really great news?

If you’re on the sidelines, is it still a good time to get back in? And if you’re holding significant amounts of your wealth in stocks, do you want to stay in the market or ‘sell the bounce’?

In fact, that’s the email I sent to Vern Gowdie yesterday as markets were again rising. My one line mail asked, ‘Sell the bounce?

Vern’s one word reply was, ‘Definitely.’

Now that’s just general advice, mind you. And while Vern may feel certain we’re in for far more pain before the real recovery begins, there’s no such thing as certainty in the share markets.

Though the following chart, courtesy of The Age doesn’t exactly inspire confidence for any kind of sustained rally yet:


Port Phillip Insider

Source: Sources: HIS Markit / The Age

[Click to open in a new window]

The Eurozone services purchasing managers index (PMI) survey has been around since 1998. Any level below 50 means a slowdown in activity from the previous month. Anything above 50 means things picked up.

The most recent level? 28.4. Its lowest level ever.

Barring a rapid cure or vaccine for the virus (something to pray for but certainly not count on), we’re likely to see a tremendous spike in unemployment over the coming weeks. Tenants without jobs won’t be able to pay their rent. Landlords without paying tenants won’t be able to pay their mortgages. And banks not receiving their regular repayments will only continue to function thanks to the largesse of the central banks.

The potential ramifications (second order effects) could fill many pages. We’ll spare you those.

Instead, here are what some of editors are saying.

Vern Gowdie:

Hope is not an investment strategy. Mainstream talk of a bottom is what gives rise to a sucker’s rally. If you’re into trading then yes jump on the rally. Otherwise stand back, let the talking heads have their 15-seconds of relief, and then settle in for the grind to much lower levels.’

And here’s Sam Volkering:

‘[W]hile the markets have just jumped, the real economic pain of all this has not even come close to hitting as it should…

More market pain is coming. So don’t go chasing gains just yet, you may very well get caught in a trap for young players.

That’s not to say there won’t be a massive turnaround boom when we move through this. It’s just right now, there’s still far too much going wrong to even come close to justifying the daily market swings.

And my good buddy Callum Newman, writing in today’s Catalyst Trader (published by our sister company, Fat Tail Media):

This is known as a “bear market rally”.

It’s a trap.

Make no mistake — stocks in general are in for a tough year.’

Finally, I’ll leave you with this, from Murray Dawes:

There are huge forces at play at the moment. In the ASX 200 we have seen the daily buy pivot after a false break of the 2016 low. That is the first thing I needed to see before I was willing to go hunting for opportunities. But the downside momentum has been so immense I expect that there will still be bouts of volatility to contend with going forward.

My strategy involves making calculations after I get the buy or sell pivot signal in the right spot. That’s where the edge of the system is and I can’t go into detail about it here.

As I keep saying the market is constantly shaking short term traders out of their positions whether they are bulls or bears. The bulls who are buying now will probably get shaken out of their positions at some point. That’s when I’ll be looking to enter some trades from the long side.

But these are crash conditions. The stocks I will be entering will be stocks that I want to own long term. I want quality businesses that I know will be around in ten or twenty years’ time ticking over with good cash-flow. Businesses like Qantas Ltd [ASX:QAN] and Sydney Airport [ASX:SYD] for example.

The current sell-off may be the last chance to fill up the portfolio with market leading stocks that have a strong market position. I would prefer to buy some soon and then more if the market has another leg lower, rather than trying to pick the bottom and getting stopped out over and over.

When you enter crash like conditions your strategy has to change with the market. The volatility is so immense that a normal stop loss of say 10-30% will be hit within days or even hours.

For more from Murray be sure to tune in tomorrow.

He’ll be helming your Port Phillip Insider as I’m taking the day off for a round of golf and some leisurely reading. Both great activities in these times of social distancing.

And don’t forget that Murray’s ‘Metronomic Trading Workshop’ is being removed from our servers tomorrow night at midnight.

Until then, you can watch that here.

Cheers,
Bernd