Thursday, July 10, 2014

"The economy depends about as much on economists as the weather does on weather forecasters." --Jean-Paul Kauffmann

U.S. EQUITIES ARE ALREADY IN A BEAR MARKET (July 9, 2014): Most investors have behaved as though the bull market for U.S. equity indices which began in early March 2009 will continue for several more years. Already this extended uptrend has lasted longer than 90% of previous U.S. equity bull markets, and we have experienced an increasing number of negative divergences. The number of new 52-week highs has continued to contract. The number of investors who are hedging their portfolios against a decline has been sharply reduced, even among institutional investors who routinely use hedging but have decided recently that it's "a waste of money". Investors who were burned by the last bear market, and who made massive net withdrawals in the fourth quarter of 2008 and the first quarter of 2009, have been among the most eager to "get back into the stock market" since the beginning of 2013. The ratio of insider selling to insider buying has recently been increasing, especially among those traders with the best track records. Those groups and individual shares which had been among the leaders in recent years have recently been among the biggest losers, while lagging securities have been the most likely to catch up especially for inflation-favoring assets including mining shares. All of these tend to occur whenever a major bull market is transitioning to a major bear market.

Very few investors pay attention to the Russell 2000 Index and its relation to the S&P 500 Index. From early March 2009 through early March 2014, the Russell 2000 consistently outperformed the S&P 500 during uptrends, gaining nearly 100% more overall in percentage terms from their respective bottoms. Since the first week of March 2014, however, the Russell 2000 barely eked out a new all-time high on July 1, 2014 and rapidly moved lower again. During the same four-month period, the S&P 500 achieved numerous all-time highs. Whenever small-cap equities in any sector are persistently underperforming their large-cap counterparts, a major bear market is usually imminent. One common characteristic of 1928-1929, 1972-1973, and 2007 was the sudden shift from outperformance to underperformance for small stocks prior to the eventual stock-market collapse on all three of the above occasions. The mainstream financial media have barely paid attention to this key negative divergence, thereby making it even more likely to prove to be a significant omen.

Do you know anyone who has been selling stocks to take advantage of their overvaluation? Almost everyone I have met seems to believe that the good times will last indefinitely. Part of this is the human tendency to project the recent past into the indefinite future, which is probably the most consistently negative habit of most investors. As measured by Tobin's Q, the U.S. equity market overall has only been more dangerously overpriced once in its history, which was during the first quarter of 2000.

There is another pattern which is persistently underestimated by investors, which is the S&P 500 megaphone. Since 1996, the S&P 500 Index has made a sequence of several higher highs and lower lows. For example, the lows of 2002 were below the lows of 1998, while the lows of 2009 were below the lows of 2002. In early 2009, many believed that this trend was broken, but it once again proved to be reliable in forecasting the powerful bull-market rally in recent years and especially the new all-time highs. The next step, for better or worse, is therefore breaking below the 666.79 nadir of March 6, 2009, which would represent a decline of nearly two thirds from its July 3, 2014 zenith of 1985.59. Of course the S&P 500 could set one or more new all-time peaks before collapsing, but if any asset is likely to lose two thirds of its value then it is far too dangerous to hold onto it merely to eke out perhaps a few additional percent. The risk-reward ratio for the U.S. stock market has rarely been more unfavorable.

I have been buying the actively managed exchange-traded fund HDGE each time it drops another 10 cents. My highest purchase was at 12.99 and my lowest fill was at 11.59. After each bounce for HDGE (i.e., each time U.S. equities retreat), I plan to continue to accumulate HDGE into weakness. I am still losing money overall on this investment so far, but I expect it to be among the best-performing funds through 2016 or 2017. I plan to eventually make HDGE probably my second- or third-largest holding, although that will likely not occur until perhaps the spring or summer of 2015.

Disclosure: In August-September 2013, and again during the first four months of 2014, I was aggressively buying the shares of emerging-market country funds whenever they appeared to be most undervalued. Since June 2013, I have added periodically to funds of mining shares and related assets especially following their most extended pullbacks. Starting in December 2013 I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016-2017 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SIL, COPX, HDGE, REMX, EWZ, RSX, IDX, GXG, ECH, GLDX, URA, VGPMX, BGEIX, VNM, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I recently sold all of my SCIF which had briefly become my fourth-largest holding, because euphoria over the Indian election is almost certainly overdone. I have reduced my total cash position since June 2013 to approximately one seventh of my total liquid net worth in order to increase my holdings in the above assets. I sold almost 90% of my SLX near 49 dollars per share in November-December 2013 because steel insiders were doing likewise. I plan to buy more HDGE each time it drops below 13 dollars per share, because I expect the S&P 500 to eventually lose about two thirds of its peak value--with most of that decline occurring during the second quarter of 2015 and extending into 2016 or 2017. The Russell 2000 Index barely achieved a new all-time top on July 1, 2014 compared with its early March 2014 highs, while the S&P 500 did so numerous times over the same four-month period. This marked a classic negative divergence which previously occurred in years including 1928-1929, 1972-1973, and 2007. Those who have "forgotten" the lessons of past bear markets are doomed to repeat their mistakes.

Saturday, June 7, 2014

"Money is the opposite of the weather. Nobody talks about it, but everybody does something about it." --Rebecca Johnson

NUMEROUS ASSETS ARE MARKING VITAL TURNING POINTS (June 6, 2014): There's an apt financial quip that "everything you know is wrong". If you were to believe the mainstream financial media, you would conclude that the bull market for U.S. equities which began in early March 2009 will continue for several more years. You would also believe that the 2014 rally for U.S. Treasuries will persist indefinitely--not because of fundamental factors or other logical reasons, but since "there's a worldwide shortage of bonds". You would be sure that gold is going to plummet to one thousand U.S. dollars per troy ounce, since that is what nearly every brokerage analyst is insisting must happen during the next year or two, and you would also be bearish toward almost all other commodities except for those which have surged in recent months and which therefore will allegedly keep rising because "their demand is outstripping their supply". You would be convinced that all rallies for emerging-market assets of all kinds from recent five-year bottoms "must be temporary", and will soon be followed by renewed bear markets. And of course you'd be wrong about all of the above.

Very few people pay attention to the Russell 2000, its related funds including IWM, or other benchmarks of small-cap U.S. equities. Almost all of these peaked along with the Nasdaq during the first week of March 2014. However, the possibility that the Russell 2000 could have already begun a bear market is being ignored or dismissed by almost everyone, just as a similar divergence between the Russell 2000 and the S&P 500 had occurred on numerous past occasions as we were transitioning to a major bear market. The last time this happened was in October 2007, which was greeted by investors piling into U.S. equities just as they have been doing in recent months. Almost everyone loves to buy high and to sell low, so this should hardly be surprising. Believing that "it's different this time" is a dangerous conceit.

As for U.S. Treasuries and their related funds including TLT, these most likely peaked near the end of May when they reached their highest points in nearly one year. The bear market for U.S. Treasuries which began after these had achieved all-time peaks in July 2012 will likely not end until these revisit their lows from the early months of 2011, the last time that U.S. Treasuries had gone dramatically out of favor. Many who had sold short Treasuries have been covering their positions, because they can't bear to be on the wrong side of what appears to be an extended uptrend. These traders most likely bailed out just before their reasons for being bearish were about to be vindicated by favorable market action. The financial markets repeatedly act in whichever way will benefit the fewest number of participants at any time.

Emerging-market funds of all kinds had continued to experience all-time record net outflows through the past winter. These withdrawals have finally subsided, but very few investors have become interested in participating. As long as general U.S. equity indices were nearly all enjoying strong uptrends, very few people cared about potential alternatives. Now that small-cap equities have stopped climbing, instead of embracing the oversold and undervalued losers of 2013, or--gasp--actually selling stocks, most are simply shifting into outperforming large-cap stocks just as they had done in 1929, 1937, 1972, 1990, 2000, 2007, and numerous other past occasions when crowding into fewer and fewer rising assets eventually proved to be an unwise decision. Whenever large-cap stocks slide into corrections along with their small-cap cousins, a lot more investors will be eager to find assets which behave differently; some will buy the shares of commodity producers and emerging-market equities which had been so unpopular last year. If "boring" generic index funds are outperforming, then almost no one will consider anything else; however, as investors progressively realize that additional gains are highly unlikely for most baskets of U.S. equities, they will much more eagerly embrace assets which they normally wouldn't dream of buying.

Disclosure: In August-September 2013, and again during the first four months of 2014, I was aggressively buying the shares of emerging-market country funds whenever they appeared to be most undervalued. Since June 2013, I have added periodically to funds of mining shares and related assets especially following their most extended pullbacks. Starting in December 2013 I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016-2017 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SIL, COPX, REMX, EWZ, RSX, IDX, GXG, HDGE, ECH, GLDX, URA, VGPMX, BGEIX, VNM, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I recently sold all of my SCIF which had briefly become my fourth-largest holding, because euphoria over the recent Indian election is likely overdone. I have reduced my total cash position since June 2013 to approximately one sixth of my total liquid net worth in order to increase my holdings in the above assets. I sold almost 90% of my SLX near 49 dollars per share in November-December 2013 because steel insiders were doing likewise. I plan to buy more HDGE each time it drops below 13 dollars per share, because I expect the S&P 500 to eventually lose more than half of its current value--with most of that decline beginning during the second quarter of 2015 and extending into 2016 or 2017. The Russell 2000 Index failed to achieve a new all-time top since early March 2014 while the S&P 500 did so numerous times, in a classic negative divergence which previously occurred during October 2007. Those who have "forgotten" the lessons of the 2007-2009 bear market are doomed to repeat their mistakes.

Tuesday, May 20, 2014

"When a person with money meets a person with experience, the person with the experience winds up with the money and the person with the money winds up with the experience." --Harvey MacKay

MINING SHARES ARE AMONG THE BEST-PERFORMING SECTORS OF 2014, AND REMAIN AMONG THE MOST COMPELLING BARGAINS (May 20, 2014): Earlier in 2014, I was a huge fan of purchasing emerging-market equity funds which in many cases had slumped toward their lowest levels in five years. During the past few months, most of these funds have rebounded, even those which had been the least popular including India (SCIF), Indonesia (IDX), Brazil (EWZ), Colombia (GXG), and finally Russia (RSX). I wouldn't dream of selling these until they return to their levels from 2011, but they are no longer sufficiently compelling to buy. However, there does remain an important sector which has begun rebounding from similar five-year bottoms reached in June through December 2013, but which remains significantly below historic averages and continues to receive mostly gloomy media coverage. This equity group is mining shares of all kinds--precious metals, coal, uranium, rare-earth metals, base metals, and related assets.

Out of all of the above, the best current bargains are probably gold and silver mining shares. These had been the top-performing subsector from December 23, 2013 through March 14, 2014 when these assets surged; for example, GDXJ gained 59.7%. From March 14 through April 21, these surrendered much of their increase, with GDXJ slumping 26.6%. During the past month, these have gone net sideways while encouraging a fresh bout of negative media commentary and renewed calls for gold to plummet to one thousand U.S. dollars per troy ounce. Whenever any asset has transitioned from a severe bear market to a primary bull market, and is accompanied by continued negative commentary and investor indifference, then it is almost always approaching its next important uptrend. This has provided an opportunity to add to positions in GDX, GDXJ, GLDX, SIL, SILJ, and similar funds of gold and silver mining shares.

KOL is a fund of coal-mining shares which had bottomed in the early summer of 2013 and completed an important higher low on February 3, 2014. Since then, it has formed several higher lows, defying continued insistence by analysts that coal is going to be magically replaced by other energy sources. The reality is that the global usage of coal sets new records each year, and 2014 is not going to be an exception. Historically, coal mining shares are especially volatile and have experienced dramatic swings in both directions. If they have switched from a bear market to a bull market, which is highly probable, then they are likely to accelerate their uptrend later in 2014 which should continue into the first half of 2015. Energy producers in general remain out of favor, with coal mining being among the most notable.

Another unpopular energy subsector is uranium mining. A year ago, a multi-decade program to convert Soviet nuclear missiles to energy usage was scheduled to terminate, which would drastically curtail the worldwide supply of uranium. Many speculators bought uranium a few years ago in anticipation of this event. When the program ended and uranium didn't suddenly soar, disappointed holders sold nearly simultaneously which caused the price of uranium to plummet. Looking at a chart of URA, it appears that this fund is completing its three-year bear market and is set for a significant rebound. A brief rally in late winter fizzled out, thereby discouraging nearly all short-term speculators from getting back in and leaving the field wide open for those who are willing to buy low and to wait for perhaps a year before selling high. If URA returns to its high of February 2012, which is nowhere near its even more elevated pre-Fukushima peak of 2011, then this fund will considerably more than double from its current price.

REMX is a fund of rare-earth metals which had become trendy three years ago when it was feared that China would reduce its export of these metals which are required to manufacture many high-tech devices used by nearly everyone around the world. As with many other mining and emerging-market assets, this fund peaked in April 2011 and thereafter suffered a severe bear market before attempting to bottom during the past half year. With almost all previous holders having been flushed out of their long positions, the stage is set for a rebound which, like URA and many other funds listed above, will result in its current price more than doubling if it approaches its high from early February 2012.

Base metals have been trendier than many other commodities in recent months, so the shares of their producers and related funds including COPX aren't as depressed as most of the other assets listed in the previous paragraphs. I have therefore stopped buying these after having accumulated them during the first half of March 2014. I wouldn't dream of selling these until we experience heavy insider selling, eager amateur participation, cable TV excitement over these shares, and all of the usual signs of a topping pattern.

It is surprising how many investors are continuing to pile into assets which are at or near all-time highs and are far more likely to decline than to continue to rally, because they are falsely projecting their outperformance since early 2009 into the indefinite future. At the same time, nearly all investors are ignoring the opportunity to accumulate securities which reached or approached five-year lows during the past year and have just begun to rebound. The underperformance of the Russell 2000 relative to the S&P 500 is seen by most investors as an excuse to sell the former while buying the latter, just as too many investors foolishly did in 2007 and previously in 1999-2000 when a similar divergence occurred. Instead, it makes sense to accumulate the most undervalued and least desired equities into all pullbacks, because they are likely to be among the biggest winners of the upcoming year. General U.S. equities have already entered a bear market which is being dangerously underestimated by almost everyone.

Disclosure: In August-September 2013, and again during the first four months of 2014, I was aggressively buying the shares of emerging-market country funds whenever they appeared to be most undervalued. Since June 2013, I have added periodically to funds of mining shares and related assets especially following their most extended pullbacks. Starting in December 2013 I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016-2017 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SCIF, SIL, COPX, REMX, EWZ, RSX, IDX, GXG, HDGE, ECH, GLDX, URA, VGPMX, BGEIX, VNM, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I have reduced my total cash position since June 2013 to approximately one sixth of my total liquid net worth in order to increase my holdings in the above assets. I sold almost 90% of my SLX near 49 dollars per share in November-December 2013 because steel insiders were doing likewise. I plan to buy more HDGE each time it drops below 13 dollars per share, because I expect the S&P 500 to eventually lose more than half of its current value--with most of that decline beginning during the second quarter of 2015 and extending into 2016 or 2017. The Russell 2000 Index failed to achieve a new all-time top in April-May 2014 while the S&P 500 did so several times, in a classic negative divergence which previously occurred during October 2007. Those who have "forgotten" the lessons of the 2007-2009 bear market are doomed to repeat their mistakes.

Wednesday, April 30, 2014

"Inflation is when you pay fifteen dollars for the ten-dollar haircut you used to get for five dollars when you had hair." --Sam Ewing

INFLATION IS THE LEAST APPRECIATED PHENOMENON TODAY (April 30, 2014): If you were to poll ten thousand investors about what is most likely to occur in the worldwide economy during the upcoming twelve to fifteen months, then rising inflationary expectations would probably be among the least popular responses. However, evidence demonstrates that there has already been the kind of behavior which typifies a period of global reflation. Commodities from coffee to corn to limes to palladium to soybeans have been surging in recent months, while gasoline (petrol) prices recently climbed to 13-month highs. Each of these so far has been attributed to a separate localized reason rather than the unifying theme of rising prices, but eventually these will be recognized as part of a related theme. Rents have been steadily rising in the U.S. and around the world, while wages have been increasing at their fastest pace since before the last recession as unemployment especially among skilled workers has declined to a sufficiently low point where there is a shortage of qualified candidates in many fields and particularly in certain specialties.

The U.S. Federal Reserve appears to be obsessed with the risk of deflation, while being unconcerned about the possibility of rising prices. Because the Fed wants higher U.S. housing prices, the usually inflation-wary Fed is likely to continue to be especially accommodative toward allowing inflation to move higher especially if this helps to keep unemployment low. The Fed giving the green light to rising prices is especially dangerous, since history has demonstrated that once inflation appears it will become quite challenging to suppress. The shares of companies which benefit from rising inflationary expectations, including most emerging-market equities and commodity producers, had mostly bottomed at five-year lows at various points from June 2013 through March 2014 and have begun what could become dramatic uptrends as they revisit their respective peak levels from 2013, 2012, and 2011, in that order.

General U.S. equity indices have likely terminated their uptrends which mostly began in early March 2009. Whenever we are transitioning from a U.S. equity bull market to a bear market, inflation historically is most likely to emerge. This is partly because companies and employees are reluctant to raise prices or to ask for higher wages when memories of the previous recession remain fresh. As time passes and four or five years have passed since the last economic downturn, companies and individuals become bolder in asking for more money to buy their goods or to compensate them for their services. Thus, inflation becomes artificially depressed in the early years following any recession, and later accelerates dramatically in order to catch up to reality.

As a result, we have a situation in which the Fed is concerned with deflation and nearly all investors aren't worried about inflation, while historically we are maximally likely to experience rising prices for goods and services. This will lead to what appears to be a "sudden, unexpected" inflationary surge which will of course be completely predictable, just as we had previously experienced in 2007-2008, 1972-1973, 1936-1937, and during similar periods near the beginning of important U.S. equity bear markets. In 2008, the prices of many energy and agricultural products surged to their highest levels in decades. Everyone in July 2008 was worried about how much higher gasoline prices would become. A half year later, no one was concerned about gasoline while everyone feared that they would lose their jobs. We are likely to experience a similar economic sequence during the next two to three years, where we first have concerns about rising prices--and then, less than a year later, everyone has shifted their focus to the serious problems facing a contracting global economy.

During this kind of transition, the shares of mining companies and emerging-market equities are often among the top performers during the first year following the end of a U.S. equity bull market, with long-dated U.S. Treasuries generally being the biggest winners during the second and sometimes the third year. Investors will progressively realize that they can no longer make money by remaining in their favorite securities, and will eagerly seek out whichever alternatives appear to have established the strongest uptrends. Now is the ideal time to own many of the funds listed in the following paragraph; during the first half of 2015, it will likely become timely to gradually shift out of these and into pure U.S. Treasury funds including TLT and ZROZ. Especially since so few investors recognize or appreciate patterns which have occurred repeatedly in past decades, very few people have positioned themselves to profit from global reflation. Therefore, if you take action sooner rather than later, you will be among the first to embrace this concept. As Warren Buffett has sagely said, what one wise investor does in the beginning many fools do in the end.

Disclosure: In August-September 2013, and again during the first four months of 2014, I was aggressively buying the shares of emerging-market country funds whenever they appeared to be most undervalued. Since June 2013, I have added periodically to funds of mining shares and related assets especially following their most extended pullbacks. Starting in December 2013 I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016-2017 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SIL, COPX, SCIF, REMX, EWZ, RSX, IDX, GXG, GLDX, VGPMX, HDGE, ECH, BGEIX, VNM, URA, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I have reduced my total cash position since June 2013 to approximately one sixth of my total liquid net worth in order to increase my holdings in the above assets. I sold almost 90% of my SLX near 49 dollars per share in November-December 2013 because steel insiders were doing likewise. I plan to buy more HDGE each time it drops below 13 dollars per share, because I expect the S&P 500 to eventually lose more than half of its current value--with most of that decline beginning during the second quarter of 2015 and extending into 2016 or 2017. The Russell 2000 Index failed to achieve a new all-time top in April 2014 while the S&P 500 did so several times, in a classic negative divergence which previously occurred during October 2007.

Thursday, April 3, 2014

"A fool and his money are lucky enough to get together in the first place." --Stanley Weiser, screenwriter for Gordon Gekko of Wall Street

U.S. EQUITIES ARE FAR MORE BEARISH THAN INVESTORS REALIZE, WHILE MINING AND EMERGING-MARKET NAMES ARE MUCH MORE BULLISH (April 3, 2014): General U.S. equity funds have been highly popular with investors since the beginning of 2013, and have enjoyed enormous inflows whenever key benchmarks have traded closest to their all-time peaks. Are investors making an intelligent decision by purchasing U.S. equities after they have already enjoyed a bull market of greater than five years in duration? The biggest inflow in history into U.S. equity funds was in February 2000, shortly before the worst technology bear market since the Great Depression; the largest one-month outflow was in February 2009 when the previous bear market had nearly terminated and we had the most compelling buying opportunity for the stock market since the final months of 1974. Thus, investors repeatedly buy high and sell low. Is it different this time?

While the media have been trumpeting recent all-time highs for the Dow Jones Industrial Average and the S&P 500, almost no one has pointed out that the Russell 2000 Index has failed to surpass its highest levels from early March 2014. IWM, a fund which tracks the Russell 2000, reached 120.58 on March 4, 2014 and a lesser-known 120.64 at 8:43:34 a.m. in the pre-market session on March 6, 2014--just after the monthly U.S. employment report was released. Since then, IWM has surpassed 120 several times, although not during April. The media rarely discuss the Russell 2000, which is a shame since one of the earliest clear signs that we had entered the previous bear market was when the S&P 500 and the Dow Jones Industrial Average surged to new all-time highs in October 2007 while the Russell 2000 refused to surpass its July 2007 zenith. In past decades, a similar pattern has also prevailed: the crushing 1973-1974 bear market was preceded by notable underperformance by indices of small- and mid-cap securities in 1972, while the worst bear market in world history during 1929-1932 was foreshadowed by small-cap securities lagging during 1928-1929.

A confirming signal of an impending bear market can be seen with VIX. The most valuable use of VIX is its uncanny ability to tell us whether a major market transition is underway. If we are transitioning from a bull market to a bear market, then VIX will signal this far in advance by first touching a multi-year bottom, and then making higher lows over a period of several months or longer. If we are transitioning from a bear market to a bull market, the VIX does the exact opposite by first touching a multi-year top, and then making lower highs over a period of several months or longer.

Let's test this theory to see how it held up during the past decade. VIX bottomed at 9.39 on December 15, 2006, which was a multi-year bottom. After that, it began to form about a dozen higher lows. Therefore, when we reached June 1, 2007 and the Russell 2000 reached a new all-time high, the failure of VIX to slump to a new low was a warning that the bull market was in its final stages. In October 2007, when the S&P 500 and the Nasdaq reached new all-time peaks, while the Russell 2000 completed a lower high, additional higher lows for VIX ensured us that the negative divergence with the Russell 2000 should be taken seriously, since VIX by then had failed to register a new low for ten months. By the time we reached August 2008, when almost everyone else was overly complacent about a worsening bear market, VIX had been forming higher lows for more than 20 months. This was a loud and clear signal to get out of the market, buy U.S. Treasuries, sell short, or do something other than literally getting sunburned on the beach as most money managers did that month.

Now let's look at the opposite side of the coin. What did VIX do after the U.S. equity (and global stock market) collapse which began in September 2008? VIX peaked at 89.53 on October 24, 2008. While GDX bottomed at the open that day, nearly all other equity sectors weren't done with their declines. On November 20, 2008, when KOL and numerous other shares of commodity producers completed their nadirs for the cycle, VIX made a lower high of 81.48. This was one of the first clear signs that we were in a transition from a bear market to a bull market. If VIX had made a higher high, then it would have signaled that the downturn was still intact. By the time the S&P 500 slumped to its 12-1/2-year bottom shortly after the U.S. employment report on Friday, March 6, 2009--notice the perfect inverse parallel with the first Friday of 2014--the high for VIX was 51.95 on March 6, the same as it had been the previous day, and 51.34 on March 9, 2009. These numbers were enormously lower than their highs from the fourth quarter of 2008, and signaled that a bull market was more closely approaching. Since then, the VIX hasn't reached 50, although it almost did so in both 2010 and 2011 and will almost surely dramatically surpass that level during 2015-2016. Even if you weren't tracking the surge in insider buying, or the sharp decrease in the number of new 52-week lows, or the all-time record outflows from equity funds (admittedly the last one was a huge reason to buy stocks in the first quarter of 2009), VIX gave you valuable signals.

If we look at VIX since the start of 2013, we can see that it reached its lowest point in more than six years on March 14, 2013, when it bottomed at 11.05. Since then, it has formed several higher lows, and is probably completing an additional higher low this week or next week. Even though some U.S. equity indices have recently reached new all-time highs, VIX is putting its foot down and saying "no". By continuing to form higher lows for more than a full year, VIX is stating unequivocally that we are well into in the process of transitioning to a bear market and that selling funds closely correlated with general U.S. equity indices is well advised.

You may be wondering: what does all of this have to do with the mining and emerging-market sectors, most of which at some point during the past year traded at or near five-year lows? The answer is that, as long as the Russell 2000 is continuing to set new all-time highs every several weeks or so, and is gaining maybe 20% annually, then almost no investors--institutional or individual--are going to be interested in looking elsewhere. It's much simpler and effective to stick with your favorites when they're working reasonably well. However, if the Russell 2000 has already begun a bear market which will result in a total 2014 calendar year loss of more than 10%, as I am anticipating, then investors will become progressively more eager to seek alternatives. As a result, more and more people will gradually purchase the least popular securities of 2013 which suddenly turned hot in 2014, including mining and emerging-market names, until eventually investors are buying these precisely because of their recent outperformance. Thus, there is a direct connection between investors wanting to get out of previous winners that are no longer winning into former big losers which have suddenly become the darlings of the financial markets.

Disclosure: In late August and early September 2013 I was aggressively buying the shares of emerging-market country funds. Since early December 2013, I have added moderately to my funds of the most undervalued mining shares and emerging-market equities, especially during their most extended pullbacks. Most recently, I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SIL, COPX, SCIF, REMX, EWZ, RSX, IDX, GXG, GLDX, VGPMX, HDGE, ECH, BGEIX, VNM, URA, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I have significantly reduced my total cash position since June 2013 in order to increase my holdings of the above assets, and currently hold about 18% of my total net worth in cash and its equivalents. I sold almost 90% of my SLX near 49 dollars per share because steel insiders were doing likewise. I plan to buy more HDGE each time it suffers a short-term pullback, because I expect the S&P 500 to eventually lose more than half of its current value--with most of that decline occurring during 2015-2016.

Tuesday, February 18, 2014

"The easiest way for your children to learn about money is for you not to have any." --Katharine Whitehorn

HDGE IS AN IDEAL WAY TO FADE THE POPULARITY OF GENERAL U.S. EQUITIES (February 18, 2014): General U.S. equity funds have been highly popular with investors since the beginning of 2013. They briefly went out of favor near the beginning of February 2014, but as the S&P 500 Index has approached its all-time peak, most investors are convinced that they are going to remain in the market "for the long run" even though they didn't even bother to participate during 2009-2012 because of negative emotional memories of the 2007-2009 bear market. As a result, it is highly untrendy to consider selling short or to otherwise wager that U.S. equities are likely to be substantially lower in 2016. Since the mid-1990s, the S&P 500 Index has formed a pattern of numerous higher highs and lower lows, which is known as a megaphone formation. The 1997 top was exceeded in 2000, which was surpassed again in 2007, and which has led to a new all-time high in recent weeks. Similarly, the 1998 bottom was followed by a lower low in 2002, a deeper nadir in 2009, and what will eventually become an even more depressed reading in two or three years. Each time that we achieve one extreme or another, investors conclude that prices will either keep climbing or keep declining indefinitely, forgetting that the financial markets have always been cyclical. It would be as though a very cold spell each January convinces people that we won't have summer the following July [you can reverse these months if you live south of the equator].

There are many ways to benefit from a slumping stock market, but perhaps the best one is by purchasing an actively managed fund of short U.S. equity positions with the symbol HDGE. By owning this fund, you won't be forced by your broker to repurchase your shares because your broker can no longer borrow them. In addition, if you sell short directly, then you will achieve a short-term capital gain taxed as high as 43.4% even if you hold your short position for more than one year. However, if you buy HDGE, then if you hold it for at least one year and one day it will qualify as a U.S. federal long-term capital gain which has a top tax rate of 23.8%. If you are in a low tax bracket, then the differential is 15% short-term versus 0% long-term. If you prefer shorter-term trading, which is ideal for a retirement account, then you can buy HDGE whenever VIX is depressed, with the idea of selling it whenever VIX has recently surged to a short-term peak and begins to retreat.

Speaking of VIX, almost no one has noticed that VIX has formed a pattern of higher lows since it bottomed at 11.05 on March 14, 2013. For nearly one year, VIX has been forming a pattern of several higher intraday lows. The last time that VIX bottomed at a multi-year nadir was on December 15, 2006 at 9.39; we know what happened afterward. It's not different this time. VIX measures the implied volatility of a basket of options on the S&P 500 Index; a slow rise in VIX over the course of one or two years indicates that the most knowledgeable options traders are progressively charging more to insure equity portfolios. The media sometimes discuss VIX, but they don't know how to interpret it properly. Similarly, an extended pattern of lower highs for VIX, such as we experienced from October 2008 through March 2009, indicates that a strong U.S. equity bull market is approaching.

There are other "bear funds", but none of them actually sells short equities directly and exclusively. Nearly all of them speculate in the futures market, and therefore will erode in value. If the underlying security is unchanged, you will end up losing money. In addition, the two managers of HDGE have excellent track records of selecting equities which will decline more than the overall equity market during any bearish downtrend. Even though this fund has existed for only a few years, its track record already proves the co-managers' ability to make enlightened bear-market choices. The management fee is somewhat high, but it is justified by the capital-gains qualification, the frequent portfolio adjustments, and above all the past performance during stock-market pullbacks.

Disclosure: In late August and early September 2013 I was aggressively buying the shares of emerging-market country funds. Since early December 2013, I have added moderately to my funds of the most undervalued mining shares and emerging-market equities, especially during their most extended pullbacks. Most recently, I have been buying HDGE whenever it has traded below 13 dollars per share with the idea of selling it in 2016 as we are completing the next U.S. equity bear-market bottoming pattern; HDGE is an actively managed fund which sells short various U.S. equities. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, SIL, COPX, REMX, SCIF, EWZ, GLDX, IDX, VGPMX, RSX, GXG, ECH, HDGE, BGEIX, VNM, URA, ZJG (Toronto), PLTM, EPU, TUR, SLX, SOIL, EPHE, and THD. I have significantly reduced my total cash position since June 2013 in order to increase my holdings of the above assets, and currently hold about 20% of my total net worth in cash and its equivalents. I sold almost 90% of my SLX near 49 dollars per share because steel insiders were doing likewise. I plan to buy more HDGE each time it suffers a short-term pullback, because I expect the S&P 500 to eventually lose more than half of its current value--with most of that loss occurring during 2015-2016.

Sunday, January 12, 2014

"The more you chase money, the harder it is to catch it." --Mike Tatum

COAL MINING SHARES ARE BARGAINS, WHILE SEVERAL EMERGING MARKETS REMAIN COMPELLING (January 12, 2014): Since I completed my last web site update on December 13, 2013, investors and analysts have become even gloomier toward commodities and their producers. However, it is becoming increasingly likely that many mining and energy assets and related emerging-market securities approached or achieved multi-year bottoms during the past several weeks, including all of the following: GDX (20.119 dividend adjusted, 8:30:43 a.m., December 6, 2013); GDXJ (28.80, 8:39:33 a.m., December 6, 2013); COPX (8.484 dividend adjusted, December 12, 2013); SIL (10.386 dividend adjusted, December 9, 2013); REMX (33.977 dividend adjusted, December 20, 2013); IDX (20.06, 10:07 a.m., January 7, 2014); EWZ (41.54, 1:48 p.m., January 9, 2014); THD (61.94, January 3, 2014); TUR (43.81, December 27, 2013); and RSX (26.618 dividend adjusted, December 5, 2013). All of the above were extremely unpopular with investors during the past year, mostly experiencing periodic significant outflows and repeated negative commentary on most media outlets.

Most financial advisors believe that the above assets remain mired in downtrends even as they have likely begun what will become powerful rallies. A few commodity producers and emerging-market stocks may not yet have completed their respective retests for the cycle, potentially including KOL, a fund of coal producers. Adjusted for its 44-cent dividend credited on December 23, 2013, KOL bottomed at 16.72 on June 24, 2013, completed a nearly matching bottom 3 cents higher on July 5, 2013, and then slumped to 18.11 on January 10, 2014. This makes coal mining shares a rare bargain which may be nearly ready to recover. Some lesser-known emerging markets may continue to retreat in the short run--including GXG, a fund of Colombian shares that during the past week slid to its lowest point since early July 2012, and ECH, a fund of Chilean shares which slumped to its lowest level since the summer of 2009. There are perhaps another dozen or two related worthwhile buying opportunities which either exist currently or will be created during the next several weeks, mostly to be found among single-country emerging-market funds and related securities. We are likely closely approaching the next major rally phases for these equity sectors which had been among the poorest performers during 2013 and could be transformed into the biggest winners in 2014.

In recent months, inflows into general U.S. equity funds have approached or surpassed their previous all-time record highs. This bodes poorly for the U.S. stock market, since previous instances of massive inflows including February 2000 and October 2007 were followed by severe multi-year bear markets. Unfortunately, 2014-2016 is likely to experience a repeat performance. Just as VIX warned of a stock-market collapse far in advance by gradually forming higher lows following its 9.39 multi-year bottom on December 15, 2006, VIX has recently touched several higher lows after similarly completing a six-year bottom at 11.05 on March 14, 2013. Most investors finally feel confident about "getting back into the market", but for all of the wrong reasons. Their memories of the 2007-2009 plunge have faded with time, thereby making it easier to rationalize as a once-in-a-lifetime event which allegedly can't be repeated. Investors who couldn't bear to buy the S&P 500 below 700 or 800 are eager to participate when it is above 1700 and 1800. Repeatedly buying high and selling low is usually not a recipe for success.

Disclosure: Since May 2012 I have been progressively accumulating long positions in funds of commodity producers whenever they have been most disfavored. I completed selling many funds of general equities which I had bought near their important low points in 2012, and which I unloaded on a gradual basis from January 28, 2013 through May 3, 2013. In late August and early September 2013 I was aggressively buying the shares of emerging-market country funds. Since early December 2013, I have added moderately to my funds of the most undervalued mining shares and emerging-market equities, especially during their most extended pullbacks. From my largest to my smallest position, I currently own GDXJ, KOL, XME, GDX, REMX, SCIF, SIL, COPX, GLDX, IDX, GXG, RSX, ECH, EWZ, VGPMX, VNM, URA, BGEIX, ZJG (Toronto), SLX, PLTM, BRF, EPU, THD, EPHE, and SOIL. I have significantly reduced my total cash position since June 2013 in order to increase my holdings of the above assets, and I sold almost 90% of my SLX near 49 dollars per share because steel insiders were doing likewise.