Safe Trading Blog

As developed in the previous posts, our confidence is improving on the market for the short term, even if it needs to be confirmed.

A key element is the situation on the mortgage business: the credit risk default has decreased the 2 last weeks by 25%. It means that things are evolving in the good direction: the confidence is increasing and then the credit default estimator is decreasing…

If we look at the SPX, we can track its situation with 2 simple numbers:

P/E ratio: 20  & the % of stocks above their 50 days moving average: 44%

With the earnings season in April, it is plausible that the P/E ratio starts decreasing. Right now, it is increasing for reasons that we have commented in previous posts.

An interesting sector within the large cap index is (as usual) the consumer staples (like WMT): P/E ratio of 18.5 with 69% of stocks above their SMA50-days, improving since last month…

Yesterday, we were discussing of stocks held by hedge funds =>

“…stocks most widely held by hedge funds are underperforming in easing FED cycles and gloomy economic periods! Indeed, these funds have to reduce exposure and decrease their leverage on their stock baskets => in general, these stocks are decreasing faster that the rest of the market…”

From this observation, we have extracted a possible portfolio…

Another idea would be to focus on stocks with the largest short interests: there are a lot of stocks with a short interest ranging from 40% to 70% of their float! Of course, these stocks have underperformed since the beginning of the year… It is quite obvious that any positive sentiment on the market will strongly reverse the situation. These shares will move sharply higher as shorts will need to buy back to cover their positions! We will come back later on this idea if we think that the conditions are gathered for some reasonable picks…

our 2 buys of yesterday:

SAN: already +2% this morning vs our buy level

& CA: at our buy level…

SPX and 10Y yield for the last 6 months: The correlation is perfect. It is quite natural but not always with such a high correlation degree.

You can check the 2 last rebounds of about 1M each… On this picture, the odds are again in favor of a continuation of the upside as long as TNX has not reach a level of about 3.8%… (3.5% today)

It will be chaotic and it is plausible that we stand @ about half the present rebound duration?! Let’s observe the forces in the next days…

Reminder of our trading scenario: 

“The short term rebound develops chaotic waves: SPX have moved back below the 1350 pts target… as well as financials have been stopped at resistance level (JPM is a good example). My odds are still positive & I expect a break of these resistances, but we need confirmation today. If yes, the rebound would find a new strength. Very important: check the 1350 pts level on SPX, this is the key technical number for the following…”

We are still waiting for the confirmation… but the odds are still in favor of the recovering of the upside. Stay defensive, our 2 lines are on the Fr markets: CA & SAN. We are ready to be more agressive on the US as soon as our triggers will give the signal.

Let’s start from the observation that stocks most widely held by hedge funds are underperforming in easing FED cycles and gloomy economic periods! Indeed, these funds have to reduce exposure and decrease their leverage on their stock baskets => in general, these stocks are decreasing faster that the rest of the market… plain & simple.

However, in a recovery move, the situation is inversed! obvious… Then, I expect a higher speed uptrend for these kind of stocks (held in hedge fund baskets). There are many choices, but I have made a defensive spread selection (covering major economic activities) also based on technical indicators and short interests:

CSX industrial

ABI health care

TIE material

RDC energy

AIZ financial

OMX consumer discretionary

This basket can be bought (with a certain risk appetite) when the rebound will recover (remember our key level of 1350 pts on the SPX)… 

See previous posts today: We have a positive bais concerning a continuation of the rebound… Worth playing the upside in case of validation of the break out of the 1350 pts level on the SPX!

We follow this plan with the idea also that consumer staples & health care are outperforming within uncertain periods: Ready to buy SAN & CA & FTE… & watching DG & financial sector for some other picks?! done on SAN & CA (@ the lows of the day)

We get ready for the US opening also => wtach list: WMT, IBM, HP & OMI…

Keep an eye on the whole BTK sector also.

For the US, wait for the confirmation that the market is running up…

A picture is always better than 1000 words: below, the chart of the yield curve (10Y yield divided by 2Y yield) versus the S&P500 == SPX (first plot)… Plain & simple: FED easing, short term interest rates drop faster than long term ones => gloomy economy => weak stock market and fly to bonds: second plot, yield curve versus 10Y bond index (UST)!

For us, as analysts & investors, we can make a powerful use of these basic observations: check the change in trend on the UST10Y/UST2Y… We will follow this macro-view on this blog!

Looking at short interests on SP500 is always of great interest: the total short interest of all stocks (on SP500) is about 10% (in per cent of the total float of those stocks)… ok, it was 7% at the beginning of the month!

This measure is certainly more complicated to track but also more relevant than the standard Call/Put ratio or VIX (or VXN) sentiment indicators…

As usual, we must focus on the trend: investors are booking short position on the “long” run. OK the stock market is gloomy, but for short term targets, the extremes are more interesting: we have found a decisive increase of the short term interests in only 3 weeks! This is a good contrarian sign that the rebound can take over… see also the previous post today.

The short term rebound develops chaotic waves: SPX have moved back below the 1350 pts target… as well as financials have been stopped at resistance level (JPM is a good example). My odds are still positive & I expect a break of these resistances, but we need confirmation today. If yes, the rebound would find a new strength. Very important: check the 1350 pts level on SPX, this is the key technical number for the following…

Under such conditions we must find the leaders: here it is clear, the biotech’s are leading as you can see on the ratio : BTK/SPX! Do not hesitate to buy if the SMA50 is broken up! BBH for biotech holders is a good vehicle as well… It gives some “support” to the all market. Technology is not leading but doing well, look at GOOG! This is a fundamental point: we need a positive trend on the NASDAQ versus the SP500 to have a powerful bounce… More later

Warning: in any case, the continuation of the general bounce on big caps, maybe still 10/15% to gain is certainly temporary (few weeks). For a yearly investor, the best is just to wait for better opportunities at lower prices in the coming months…

Do not hesitate to contact us if you want more information on asset allocations in such periods…