SLASH TRASH, STASH CASH (August 2, 2020): The last seven months have featured wild market swings in both directions. At the start of 2020 investors were willing to take absurdly high risks in nearly all assets, being far more concerned about missing out on additional gains than they were about the danger of losing money. During the third and fourth weeks of March 2020 we experienced the two biggest-ever weekly net outflows from U.S. equity funds in their entire history, smashing the previous marks from early 2009 and previous panics. By early June most people had once again become irrationally euphoric, so in my update from that time I recommended heavily selling most securities except for gold mining and silver mining shares which were still in strong uptrends. After a brief pullback which provided buying opportunities for energy shares during the second week of July, we currently have renewed intense irrational exuberance which has spread to precious metals, so last week I unloaded all of my shares of GDXJ, GDX, SIL, SILJ, and related funds and kept only my coins. At the end of the week in response to absurd bullishness regarding mega-cap U.S. technology shares, I significantly increased my short position in XLK to 8.5% of my total liquid net worth and will add more this week if the excitement continues. I now have more shorts than longs and the most cash since February 2012--roughly 5/6 of my total liquid net worth.
VIX kicks.
VIX has been the most consistently reliable indicator throughout the decades in telling us when to buy and when to sell. During the past several weeks VIX has tried repeatedly to slide into the low 20s and has repeatedly failed to do so, with the most recent attempt on Friday, July 31, 2020 when it dropped to 23.55 at 9:06 am. Eastern Time. Sooner or later VIX is going to surge higher and double or triple, although it will not likely surpass its March 18, 2020 top of 85.47. As this is happening most risk assets worldwide are going to suffer much greater percentage losses than most investors are currently anticipating. Hardly anyone has been hedging or establishing short positions in the false belief that the global economy will prosper once the coronavirus is cured. Paradoxically, the sooner there is a proven vaccine and/or cure for the coronavirus, the more rapidly we will experience a severe bear market because there will be nothing to look forward to except huge worldwide deficits and a persistent slowdown in global economic and profit growth.
Tech dreck.
The total market capitalization for U.S. equities is now roughly twice the total U.S. GDP for the first time in history, surpassing its previous all-time record of 1.87 from March 2000 (source: Randall Forsyth in Barron's from August 3, 2020). U.S. mega-cap technology shares are more overvalued than they had been during the end of 1999 and the beginning of 2000 which had been their previous absurd peaks. It should be remembered that the Nasdaq had plummeted 78.4% from its March 10, 2000 top of 5132.52 to its October 10, 2002 nadir of 1108.49 so we are almost certainly setting up for a repeat performance. Adjusted for earnings and inflation the Nasdaq could drop even more over the next few years than it had done during its historic collapse at the beginning of this century. Just as in early 2000, 1929, and early 1973, the market's most-popular companies are especially overpriced. As they regress toward the mean, they are so heavily owned by index funds and trillions of dollars of managed money that this by itself could push the worldwide economy into a recession in another year or so.
Dollar holler.
On Friday, July 31, 2020 the U.S. dollar index slid to a 2:49 a.m. bottom of 92.546 which marked its most depressed point since May 2018, after which it began to tentatively rebound. The U.S. dollar has entered what appears to be a well-entrenched downtrend, so as it reverses sharply higher along with VIX it is likely to surprise and confuse most investors who are expecting additional greenback weakness. The Russell 2000 is revealing the truth: following its all-time top of August 31, 2018 the Russell 2000 has made lower highs in January, February, June, and July. This means that the real U.S. stock market, not counting the biggest and most-popular names, has been in a downtrend for nearly two years. The longer a U.S. equity bear market continues the more frequently we will experience severe corrections such as the one we had suffered in February-March 2020. Lots of people think that was a one-time event "caused by" the coronavirus but it was merely a continuation of a series of corrections including the drop of more than 20% for the S&P 500 Index over a period of more than three months in September-December 2018. Most likely the next three to five months will be accompanied by a drop of at least 20% for all U.S. equity indices and potentially much greater losses by the time the next intermediate-term bottoming patterns are completed.
Gold cold sold.
Have you noticed recent frequent upside price projections for gold these days? Near the end of 2015 and the start of 2016 nearly all analysts were talking about not if, but when gold would drop to 1000 or 800 or 600 or 300 U.S. dollars per troy ounce, with no one talking about gold recovering to 1200 or 1300 which of course is what it did. Now we see repeated guesses as to when gold will reach two thousand, 2500, 3000, 5000, ten thousand, and so on, with hardly anyone suggesting that it might drop to 1800 or 1700. Any very overcrowded trade is always very dangerous regardless of fundamentals.
More importantly, the most reliable leading indicator for gold is its behavior relative to GDXJ and other funds of gold mining shares. When gold first touched 1970 U.S. dollars per troy ounce just before the end of the after-hours session on Monday, July 27, 2020, GDXJ had its last trade of the day at 64.18. On Friday the last trade just before 8 p.m. Eastern Time for GDXJ was 60.25 and that was with gold bullion just above 1975. When higher gold prices are met by lower highs for GDXJ then this is almost always followed by a substantial pullback for the entire sector. It works the opposite way also: when gold bullion keeps dropping while GDXJ resists repeated pullbacks then a rally is usually closely approaching.
The most bearish behavior would be gold actually reaching or closely approaching 2000 while GDXJ keeps forming lower highs.
Sweep creep deep.
There is no guarantee that Democrats will sweep the U.S. House of Representatives, the Senate, and the Presidency on November 3, 2020 but such an outcome has become increasingly likely. Just as in 2008, a Democratic sweep will cause many investors to become fearful of the future. Such a sweep could lead to the U.S. corporate tax rate climbing to roughly 28% (it was lowered from 35% to 21% at the end of 2017) as well as the SALT limitations being repealed and likely significantly higher marginal tax rates for wealthier U.S. residents. Once investors realize simultaneously that long-term capital gains rates are likely to rise sharply on January 1, 2021, investors will rush to lock in currently unusually-low rates during the final weeks of 2020. Combined with tax-loss selling for some of the biggest 2020 losers and disappointment by Robinhood investors that it's not as easy to make money as it looks, we could experience a multi-month decline which doesn't end until the final weeks of 2020 or perhaps in early 2021 followed by the next bear-market rebound.
House louse.
Real-estate prices have rebounded from their sharp March 2020 selloffs partly since 30-year U.S. fixed mortgage rates had briefly dipped below 3% and partly since the coronavirus has caused unusually low inventory, plus the U.S. stock-market rebound has likely engendered overconfidence in many other assets. As U.S. equities and corporate bonds retreat in value, residential inventory is likely to progressively increase as people sell houses to raise cash. The process of falling real-estate prices is likely to accelerate in 2021-2022 and perhaps beyond, with the primary reason in 2021 being an unexpectedly large rise for mortgage rates as both inflation and interest rates surprise everyone including the Fed with their resurgence. 2022 is likely to bring a worldwide recession and the lowest stock-market valuations in more than a decade, both of which will exert additional downward pressure on housing prices. Many people don't realize that, according to Robert J. Shiller in a New York Times article from earlier today (July 31, 2020), inflation-adjusted U.S. home prices soared 45% from February 2012 through May 2020. This increase is entirely artificial, helped by new U.S. government rules to allow nearly anyone with a good credit rating to buy nearly any house with zero down payment or closing costs which are financed along with the house itself. Real U.S. housing prices slid 36% from December 2005 through February 2012 (source: the same NYT article) so some kind of repeat performance is likely. Houses are no longer as "safe as houses": in the age of the internet they fluctuate sharply in both directions just like stocks, bonds, collectibles, and everything else. It's a small world after all.
The bottom line: get heavily into cash now to minimize your potential losses for the remainder of 2020 and to have plenty of buying power for what will likely become numerous compelling bargains.
Investors tend to be too heavily committed too much of the time, thereby making it impossible to fully take advantage of true bargains such as we had experienced in March 2020. Since the Russell 2000 and most baskets of small- and mid-cap U.S. equities have been in downtrends since August 2018, we are likely to experience several more major corrections over the next few years. You can often make more money in a U.S. equity bear market by making opportunistic purchases near all intermediate-term bottoms than you can by selling short on the way down, although it also makes sense to be short funds like XLK and QQQ or if you have a retirement/cash account to buy something like PSQ which will have inferior returns to selling short directly but which is taxed more lightly in some jurisdictions including Canada. I had recommended holding onto gold mining and silver mining shares two months ago but now those should be sold also.
Disclosure of current holdings:
From my largest to my smallest position I currently am long the TIAA-CREF Traditional Annuity Fund, bank CDs, money-market funds, Discover Bank Savings paying 0.95% (mostly new), I-Bonds, XES, MTDR, PSX, CDEV, WTI (all energy shares purchased in the second week of July 2020), GEO, BCBP, OPBK, SONA, KRNY (continuing to purchase regional banks into weakness). I have 5.0% of my total liquid net worth in the previously-mentioned energy securities, 3.5% in the regional banks I listed, 1.5% in GEO, and am otherwise completely sold out of everything else on the long side.
I have 8.5% of my total liquid net worth short XLK, 4.0% short TSLA, and 1.5% short ZM. I plan to keep adding especially to my XLK short into strength whenever XLK is near 110 or above. My cash and cash equivalents including bank CDs, savings/money-market accounts, I-Bonds, stable-value funds (fixed principal, variable interest) comprise 83.3% of my total liquid net worth, my highest percentage total since February 2012. (It seems to exceed 100% but for short positions only part of the total cash value is required to hold them.)
"Those who cannot remember the past are condemned to repeat it" (George Santayana). "Those who can remember the past but insist that it's different this time deserve to repeat it" (Steven Jon Kaplan).
The two previous longest bull markets in U.S. history occurred as follows: 1) from August 1921 through September 1929 which was followed by a bear market of over 34 months from September 1929 through July 1932; and 2) from October 1990 through March 2000 which was followed by a bear market of 30-31 months in duration (exactly 31 for the Nasdaq). The longest-ever bull market which began for the S&P 500 on March 6, 2009 and which may have ended for that index on February 19, 2020 might therefore last for 30-36 months which implies a major bottom somewhere near the end of 2022. The bear market for the Russell 2000 and many other small- and mid-cap U.S. shares began on or around August 31, 2018 and has therefore been intact for nearly two years with several key lower highs along the way.
Friends don't let friends become overinvested.
