Global Market Comments
August 16, 2019
Fiat Lux
Featured Trade:
(DON’T MISS THE AUGUST 21 GLOBAL STRATEGY WEBINAR),
(WHY CRASHING YIELDS COULD BE SIGNALING AN END TO THE STOCK SELLOFF),
(TLT), (QQQ), (DBA), (EEM), (UUP)
I believe that the entire leg down in the stock market we have seen since July has been driven by a global collapse in bonds yields, a reliable predictor of recessions.
In three weeks, ten-year US Treasury yields have collapsed from 2.15% to 1.46%, ten-year German bunds from -0.20% to -0.72, and Japanese ten-year government bonds have collapsed from -0.10% to -0.25%.
For a once in a half-century observer of the financial markets, I can assure you that these are once in a half-century moves.
Therefore, I can tell you with some news that we are coming to an end in these horrific moves, at least an interim one.
I have charted ten-year US Treasury yields for the five decades that I have been in the market below and we are rapidly approaching a crucial point. That would be the triple bottom at the all-time lows at 1.35%.
If yields bounce there, and they should, you can expect a substantial short-covering rally to ensue in the stock market. That’s why I have been using every dip this week to load up on long positions in the FANGS.
With German bunds at -0.75%, a US bottom at 1.35% may not be the final one. But it was certainly a sign for long players in the (TLT) to take their massive profits, which could take yields back up as high as 1.75%.
Investors around the world have been confused, befuddled, and surprised by the persistent, ultra-low level of long-term interest rates in the United States.
The ten-year all-time low yield of 1.33% is as rare as a dodo bird, last seen in the 19th century.
What’s more, yields across the entire fixed income spectrum have been plumbing new lows. Corporate bonds (LQD) have been fetching only 3.02%, tax-free municipal bonds (MUB) 1.60%, and the iShares IBoxx High Yield Corporate Bond ETF (HYG) a pittance at 5.27%.
Spreads over Treasuries are now inverted, with a two-year yield at 1.50% versus a ten-year yield at 1.46%. always a reliable recession indicator
Are investors being rewarded for taking on the debt of companies that are on the edge of bankruptcy, a tiny 2.0% premium? Or that State of Illinois at 3.0%? I think not.
It is a global trend.
Yikes!
These numbers indicate that there is a massive global capital glut. There is too much money chasing too few low-risk investments everywhere. Has the world suddenly become risk-averse? Is inflation gone forever?
Will deflation become a permanent aspect of our investing lives? Does the reach for yield know no bounds?
It wasn’t supposed to be like this.
Almost to a man, hedge fund managers everywhere were unloading debt instruments last year when ten-year yields peaked at 3.25%. They were looking for a year of rising interest rates (TLT), accelerating stock prices (QQQ), falling commodities (DBA), and dying emerging markets (EEM). Surging capital inflows were supposed to prompt the dollar (UUP) to take off like a rocket.
It all ended up being almost a perfect mirror image portfolio of what actually transpired since then. As a result, almost all mutual funds were down in 2018. Many hedge fund managers are tearing their hair out, suffering their worst year in recent memory.
What is wrong with this picture?
Interest rates like these are hinting that the global economy is about to endure a serious nose dive, possibly even re-entering recession territory….or it isn’t.
To understand why not, we have to delve into deep structural issues which are changing the nature of the debt markets beyond all recognition. This is not your father’s bond market.
I’ll start with what I call the “1% effect.”
Rich people are different than you and I. Once they finally make their billions, they quickly evolve from being risk-takers into wealth preservers. They don’t invest in start-ups, take fliers on stock tips, invest in the flavor of the day, or create jobs. In fact, many abandon shares completely, retreating to the safety of coupon clipping.
The problem for the rest of us is that this capital stagnates. It goes into the bond market where it stays forever. These people never sell, thus avoiding capital gains taxes and capturing a future step up in the cost basis whenever a spouse dies. Only the interest payments are taxable, and that at a lowly 1.46% rate.
This is the lesson I learned from servicing generations of Rothschild’s, Du Pont’s, Rockefellers, and Getty’s. Extremely wealthy families stay that way by becoming extremely conservative investors. Those that don’t, you’ve never heard of because they all eventually went broke.
This didn’t use to mean much before 1980, back when the wealthy only owned less than 10% of the bond market, except to financial historians and private wealth specialists of which I am one. Now they own a whopping 25%, and their behavior affects everyone.
Who has been the largest buyer of Treasury bonds for the last 30 years? Foreign central banks and other governmental entities, which count them among their country’s foreign exchange reserves.
They own 36% of our national debt, with China in the lead at 8% (the Bush tax cut that was borrowed), and Japan close behind with 7% (the Reagan tax cut that was borrowed). These days they purchase about 50% of every Treasury auction.
They never sell either, unless there is some kind of foreign exchange or balance of payments crisis, which is rare. If anything, these holdings are still growing.
Who else has been soaking up bonds, deaf to repeated cries that prices are about to plunge? The Federal Reserve which, thanks to QE1, 2, 3, and 4, now owns 13.63% of our $22 trillion debt.
An assortment of other government entities possesses a further 29% of US government bonds, first and foremost the Social Security Administration, with a 16% holding. And they ain’t selling either, baby.
So what you have here is the overwhelming majority of Treasury bond owners with no intention to sell. Ever. Only hedge funds have been selling this year, and they have already done so, in spades.
Which sets up a frightening possibility for them, now that we have broken through the bottom of the past year’s trading range in yields. What happens if bond yields fall further? It will set off the mother of all short-covering squeezes and could take ten-year yield down to match 2012, 1.35% low, or lower.
Fasten your seat belts, batten the hatches, and down the Dramamine!
There are a few other reasons why rates will stay at subterranean levels for some time. If hyper-accelerating technology keeps cutting costs for the rest of the century, deflation basically never goes away (click here for “Peeking Into the Future With Ray Kurzweil.”
Hyper-accelerating corporate profits will also create a global cash glut further levitating bond prices. Companies are becoming so profitable they are throwing off more cash than they can reasonably use or pay out.
This is why these gigantic corporate cash hoards are piling up in Europe in tax-free jurisdictions, now over $2 trillion. Is the US heading for Japanese-style yields of zero for 10-year Treasuries?
The threat of a second Cold War is keeping the flight to safety bid alive and keeping the bull market for bonds percolating. You can count on that if the current president wins a second term.
Global Market Comments
August 15, 2019
Fiat Lux
EMERGENCY NOTICE ON MACY’S PUT OPTIONS CALLED AWAY
I have received emails today from several followers indicating that their short position in the Macy’s August 16 $23 put options have been called away. These are one leg of the Macys (M) August 2019 $23-$25 in-the-money vertical BEAR PUT spread which I recommended on August 6.
I am responding with an EMERGENCY ALERT because some brokers, notably Charles Schwab, are advising their customers exactly the wrong thing to do. They are telling their customers to take out a huge leveraged margin positions to cover a long position in Macy’s shares at $23 a share. YOU SHOULD NOT FOLLOW THIS ADVICE!
Instead, you should simply tell your broker to exercise you long Macy’s August 16 $25 put options to cover your short Macy’s August $23 put options and take home the maximum potential profit one day before expiration.
Your long Macy’s August 16 $25 put options more than covers any losses in the short Macy’s August $23 put options plus a handsome profit.
Remember, when you are short a put option and it get exercised against you or called away, you automatically own the shares. In the case of the Macy’s August 16 $23 put options, you now own 100 shares for each option contract you were short. Short 57 contracts means you are now long 5,700 shares, worth $91,200 shares in a plunging market.
Most of you have short option positions, although you may not realize it. For when you buy an in-the-money put option spread, it contains two elements: a long put and a short put. The short put can get assigned, or called away at any time.
You have to be careful here because the inexperienced can blow their newfound windfall if they take the wrong action, so here’s how to handle it.
Puts are a right to sell shares at a fixed price before a fixed date, and one option contract is exercisable into 100 shares.
Sounds like a good trade to me.
Weird stuff like this happens in the run-up to options expirations.
Ordinary shares may not be available in the market, or maybe a limit order didn’t get done by the stock market close.
There are thousands of algorithms out there which may arrive at some twisted logic that the puts need to be exercised.
Many require a rebalancing of hedges at the close every day which can be achieved through option exercises.
And yes, puts even get exercised by accident. There are still a few humans left in this market to blow it.
And here’s another possible outcome in this process.
Your broker will call you to notify you of an option called away, and then give you the wrong advice on what to do about it.
This generates tons of commissions for the broker but is a terrible thing for the trader to do from a risk point of view, such as generating a loss by the time everything is closed and netted out.
Avarice could have been an explanation here but I think stupidity and poor training and low wages are much more likely.
Brokers have so many ways to steal money legally that they don’t need to resort to the illegal kind.
This exercise process is now fully automated at most brokers but it never hurts to follow up with a phone call if you get an exercise notice. Mistakes do happen.
Some may also send you a link to a video of what to do about all this.
If any of you are the slightest bit worried or confused by all of this, come out of your position RIGHT NOW at a small profit! You should never be worried or confused about any position tying up YOUR money.
Professionals do these things all day long and exercises become second nature, just another cost of doing business.
If you do this long enough, eventually you get hit. I bet you don’t.
Global Market Comments
August 15, 2019
Fiat Lux
SPECIAL AMAZON ISSUE
Featured Trade:
(WHY I’M LOOKING AT AMAZON), (AMZN)
There’s noting like buying quality at a discount, and there is no better opportunity to do so now than to buy Amazon (AMZN). I believe there is a good chance that this creation of Jeff Bezos will see its shares double over the next five years.
Amazon is, in effect, taking over the world.
Jeff Bezos, born Jeff Jorgensen, is the son of an itinerant alcoholic circus clown and a low-level secretary in Albuquerque, New Mexico. When he was three, his father abandoned the family. His mother remarried a Cuban refugee, Miguel Bezos, who eventually became a chemical engineer for Exxon.
I have known Jeff Bezos for so long he had hair when we first met in the 1980s. Not much though even in those early days. He was a quantitative researcher in the bond department at Morgan Stanley, and I was the head of international trading.
Bezos was then recruited by the cutting-edge quantitative hedge fund, D.E. Shaw, which was making fortunes at the time, but nobody knew how. When I heard in 1994 that he left his certain success there to start an online bookstore, I thought he’d suffered a nervous breakdown, common in our industry.
Bezos incorporated his company in Washington state later that year, initially calling it “Cadabra” and then “Relentess.com.” He finally chose “Amazon” as the first interesting word that appeared in the dictionary, suggesting a river of endless supply. When I learned that Bezos would call his start-up “Amazon”, I thought he’d gone completely nuts.
Bezos funded his start-up with a $300,000 investment from his parents who he promised stood a 50% chance of losing their entire investment. But then his parents had already spent a lifetime running Bezos through a series of programs for gifted children, so they had the necessary confidence.
It was a classic garage start-up with three employees based in scenic Bellevue, Washington. The hours were long with all of the initial effort going into programming the initial site. To save money, Bezos bought second-hand pine doors, which stood in for desks.
Bezos initially considered 20 different industries to disrupt, including CDs and computer software. He quickly concluded that books were the ripest for disruption, as they were cheap, globally traded, and offered millions of titles.
When Amazon.com was finally launched in 1995, the day was spent fixing software bugs on the site, and the night wrapping and shipping the 50 or so orders a day. Growth was hyperbolic from the get go, with sales reaching $20,000 a week by the end of the second month.
An early problem was obtaining supplies of books when wholesalers refused to offer him credit or deliver books on time. Eventually he would ask suppliers to keep a copy of every book in existence at their own expense, which could ship within 24 hours.
Venture capital rounds followed, eventually raising $200 million. Early participants all became billionaires, gaining returns or 10,000-fold or more, including his trusting parents.
Bezos put the money to work, launching into a hiring binge of epic proportions. “Send us your freaks,” Bezos told the recruiting agencies, looking for the tattooed and the heavily pierced who were willing to work in shipping late at night for low wages. Keeping costs rock bottom was always an essential part of the Amazon formula.
Bezos used his new capital to raid Walmart (WMT) for its senior distribution staff, for which it was later sued.
Amazon rode on the coattails of the Dotcom Boom to go public on NASDAQ on May 15, 1997 at $18 a share. The shares quickly rocketed to an astonishing $105, and in 1999 Jeff Bezos became Time magazine’s “Man of the Year.”
Unfortunately, the company committed many of the mistakes common to inexperienced managements with too much cash on their hands. It blew $200 million on acquisitions that, for the most part, failed. Those include such losers as Pets.com and Drugstore.com. But Bezos’s philosophy has always been to try everything and fail them quickly, thus enabling Amazon to evolve 100 times faster than any other.
Amazon went into the Dotcom crash with tons of money on its hands, thus enabling it to survive the long funding drought that followed. Thousands of other competitors failed. Amazon shares plunged to $5.
But the company kept on making money. Sales soared by 50% a month, eventually topping $1 billion by 2001. The media noticed Wall Street took note. The company moved from the garage to a warehouse to a decrepit office building in downtown Seattle.
Amazon moved beyond books to compact disc sales in 1999. Electronics and toys followed. At its New York toy announcement, Bezos realized that the company actually had no toys on hand. So, he ordered an employee to max out his credit card cleaning out the local Hammacher Schlemmer just to obtain some convincing props.
A pattern emerged. As Bezos entered a new industry he originally offered to run the online commerce for the leading firm. This happened with Circuit City, Borders, and Toys “R” Us. The firms then offered to take over Amazon, but Bezos wasn’t selling.
In the end, Amazon came to dominate every field it entered. Please note that all three of the abovementioned firms no longer exist, thanks to extreme price competition from Amazon.
Amazon had a great subsidy in the early years as it did not charge state sales tax. As of 2011, it only charged sales tax in five states. That game is now over, with Amazon now collecting sales taxes in all 45 states that have them.
Amazon Web Services originally started out to manage the firm’s own website. It has since grown into a major profit center, with $17.4 billion in net revenues in 2017. Full disclosure: Mad Hedge Fund Trader is a customer.
Amazon entered the hardware business with the launch of its e-reader Kindle in 2007, which sold $5 billion worth in its first year. The Amazon Echo smart speaker followed in 2015 and boasts 71.9% market share. This is despite news stories that it records family conversations and randomly laughs.
Amazon Studios started in 2010, run by a former Disney executive, pumping out a series of high-grade film productions. In 2017, it became the first streaming studio to win an Oscar with Manchester by the Sea with Jeff Bezos visibly in the audience at the Hollywood awards ceremony.
Its acquisitions policy also became much more astute, picking up audio book company Audible.com, shoe seller Zappos, Whole Foods, and most recently PillPack. Since its inception, Amazon has purchased more than 86 outside companies.
Sometimes, Amazon’s acquisition tactics are so predatory they would make John D. Rockefeller blush. It decided to get into the discount diaper business in 2010, and offered to buy Diapers.com, which was doing business under the name of “Quidsi.” The company refused, so Amazon began offering its own diapers for sale 30% cheaper for a loss. Diapers.com was driven to the wall and caved, selling out for $545 million. Diaper prices then popped back up to their original level.
Welcome to online commerce.
At the end of 2018, Amazon boasted some 306,000 employees worldwide. In fact, it has been the largest single job creator in the United States for the past decade. Also, this year it disclosed the number of Amazon Prime members at 100 million, then raised the price from $80 to $100, thus creating an instant $2 billion in profit.
The company’s ability to instantly create profit like this is breathtaking. And this will make you cry. In 2016, Amazon made $2.4 billion from Amazon gift cards left unredeemed!
In 2018, Amazon net revenues totaled an unbelievable $232 billion, generating an operating profit of $12 billion, most of which was earned from its AWS cloud services. It is currently capturing about 50% of all new online sales.
So, what’s on the menu for Amazon? There is a lot of new ground to pioneer.
1) Health Care is the big one, accounting for $3 trillion, or 17% of U.S. GDP, but where Amazon has just scratched the surface. Its recent $1 billion purchase of PillPack signals a new focus on the area. Who knows? The hyper-competition Bezos always brings to a new market would solve the American health care crisis, which is largely cost-driven. Bezos can oust middle men like no one else.
2) Food is the great untouched market for online commerce, which accounts for 20% of total U.S. retail spending, but sees only 2% take place online. Essentially this is a distribution problem, and you have to accomplish this within the prevailing subterranean 1% profit margins in the industry. Books don’t need to be frozen or shipped fresh. Wal-Mart (WMT) will be target No. 1, which currently gets 56% of its sales from groceries. Amazon took a leap up the learnings curve with its $13.7 billion purchase of Whole Foods (WFC) in 2017. What will follow will be interesting.
3) Banking is another ripe area for “Amazonification,” where excessive fees are rampant. It would be easy for the company to accelerate the process through buying a major bank that already had licenses in all 50 states. Amazon is already working the credit card angle.
4) Overnight Delivery is a natural, as Amazon is already the largest shipper in the U.S., sending out more than 1 million packages a day. The company has a nascent effort here, already acquiring several aircraft to cover its most heavily trafficked routes. Expect FedEx (FDX), UPS (UPS), DHL, and the United States Post Office to get severely disrupted.
5) Amazon is about to surpass Walmart this year as the largest clothing retailer. The company has already launched 76 private labels, with half of them in the fashion area such as Clifton Heritage (color and printed shirts), Buttoned Down (100% cotton shirts) and Goodthreads (casual shirts) as well as subscription services for all of the above.
6) Furniture is currently the fastest growing category at Amazon. Customers can use an Amazon tool to design virtual rooms to see where new items and colors will fit best.
7) Event Ticketing firms like StubHub and Ticketmaster are among the most despised companies in the U.S., so they are great disruption candidates. Amazon has already started in the U.K., and a takeover of one of the above would ease its entry into the U.S.
If only SOME of these new business ventures succeed, they have the potential to DOUBLE Amazon’s shares from current levels, taking its market capitalization up to $1.8 trillion. Amazon will easily win the race to become the first $1 trillion company. Perhaps this explains why institutional investors continue to pour into the shares, despite being up a torrid 83% from the February lows.
Whatever happened to Bezos’s real father, Ted Jorgensen? He was discovered by an enterprising journalist in 2012 running a bicycle shop in Glendale, Arizona. He had long ago sobered up and remarried. He had no idea who Jeff Bezos was. Ted Jorgensen died in 2015. Bezos never took the time to meet him. Too busy running Amazon, I guess. Worth $160 billion, Bezos is now the richest man in the world.
Global Market Comments
August 14, 2019
Fiat Lux
Featured Trade:
(HOW TO HANDLE THE FRIDAY, AUGUST 16 OPTIONS EXPIRATION),
(CRM), (FB), (M), (VIX)
(SILICON VALLEY REAL ESTATE SAYS THE BULL MARKET IN TECH CONTINUES)
Followers of the Mad Hedge Technology Letter have the good fortune to own three deep in-the-money options position that expires on Friday, August 16, and I just want to explain to the newbies how to best maximize their profits.
This involves the:
the Salesforce (CRM) August 2019 $125-$130 in-the-money vertical BULL CALL spread at $4.50 which will expire at $5.00
the Macy's (M) August 2019 $23-$25 in-the-money vertical BEAR PUT spread at $1.74 which will expire at $2.00
the Facebook (FB) August 2019 $167.50-$172.50 in-the-money vertical BULL CALL spread at $4.50 which will expire at $5.00
The total profit on all three positions will increase the value of our $100,000 model trading portfolio by 3.68%, or $3,680. This position only became possible due to the extreme volatility (VIX) seen in the market in recent weeks.
Provided that we don’t have a monster “RISK OFF” move in the market this week (more failure of the China trade talks? War with Iran? A massacre in Hong Kong?) which causes stocks to collapse and volatility to rocket, these positions should expire at its maximum profit points. So far, so good.
I’ll do the math for you on the Salesforce (CRM) position. Your profit can be calculated as follows:
Profit: $5.00 expiration value - $4.50 cost = $0.50 net profit
(22 contracts X 100 shares per option X $0.50 net profit)
= $1,100 or 11.11% in 7 trading days.
One of the reasons that I run these positions into expiration is that with volatility high, and therefore the implied volatility on the options, we get paid much more to run these into expiration than we have in the past.
Many of you have already emailed me asking what to do with these winning positions.
The answer is very simple. You take your left hand, grab your right wrist, pull it behind your neck, and pat yourself on the back for a job well done.
You don’t have to do anything.
Your broker (are they still called that?) will automatically use your long position to cover your short position, canceling out the total holdings.
The entire profit will be credited to your account on Monday morning August 19 and the margin freed up.
Some firms charge you a modest $10 or $15 fee for performing this service.
If you don’t see the cash show up in your account on Monday, get on the blower immediately and find it.
Although the expiration process is now supposed to be fully automated, mistakes occasionally do occur. Better to sort out any confusion before losses ensue.
If you want to wimp out and close the position before the expiration, it may be expensive to do so. You can probably unload them pennies below their maximum expiration value.
Keep in mind that the liquidity in the options market disappears, and the spreads substantially widen when a security has only hours or minutes until expiration on Friday. So, if you plan to exit, do so well before the final expiration at the Friday market close.
This is known in the trade as the “expiration risk.”
One way or the other, I’m sure you’ll do OK as long as I am looking over your shoulder, as I will be, always. Think of me as your trading guardian angel.
I am going to hang back and wait for good entry points before jumping back in. It’s all about keeping that “Buy low, sell high” thing going.
I’m looking to cherry-pick my new positions going into the next quarter end.
Take your winnings and go out and buy yourself a well-earned dinner. Or use it to put a down payment on a long cruise.
Well done, and on to the next trade.
Sometimes the Old Tricks Work the Best
The shares of FANGs will continue to rocket if Silicon Valley commercial real estate is any indication of the future growth rates.
The group is gobbling up office space at such a prodigious rate that only a vast expansion of their business would justify these massive long-term commitments.
Commercial real estate commitments are one of the most valuable leading indicators of stock performance out there. They show what the companies themselves think of their future prospects.
Apparently, the stock market agrees with me. Technology is virtually the only group of shares moving to new all-time highs in these otherwise dismal trading conditions.
Just this month, Facebook (FB) signed a lease for the entire brand new 43-story Park Tower in downtown San Francisco, and that’s just to house its Instagram business.
Google (GOOGL) is leasing 39% of the office space in Mountain View, CA. It is currently in negotiations with the nearby city of San Jose to build a skyscraper occupying an entire city block that will house 10,000 tech workers. It also is building another 1 million square feet near an old prewar dirigible landing strip in Moffett Park.
Apple (AAPL) is hogging some 69% of the office space in Cupertino, CA. It is just now moving into its new massive spaceship-inspired headquarters, where 10,000 workers will slave away. The world’s largest company is currently on the hunt for a second headquarter's location.
Netflix is slowly gobbling up Los Gatos, CA. It was recently joined by the set top device company Roku (ROKU), which is growing by leaps and bounds.
Fruit canning was the original industry of Silicon Valley at the turn of the 20th century, taking advantage of the surrounding peach, plum, and apricot groves. When I was a kid after WWII, defense firms such as Lockheed (LMT) took over, creating thousands of high-paying engineering jobs.
It didn’t hurt that Stanford University was spitting distance away, and the University of California was just on the other side of the bay. These two schools supplied the manpower to fuel the hypergrowth ahead.
To say the growth has caused local headaches would be an understatement in the extreme. The San Francisco Bay Area now sports the world’s most expensive residential housing. The median San Francisco home price has skyrocketed to $1,334,000 and requires an annual income of $334,000 to support it.
Small businesses such as dry cleaners, nail salons, restaurants, and barber shops have been driven out by soaring rents. It’s not uncommon now to go out to dinner only to find a “closed” sign on your favorite nightspot. Your personal assistant now has to travel miles just to get your suits pressed.
As for traffic, forget about it. Rush hour has ceased to exist. Freeways are now jammed a nonstop 12 hours a day in the worst neighborhoods.
Success has its price, and this was never truer than in Silicon Valley.
Global Market Comments
August 13, 2019
Fiat Lux
Featured Trade:
(THE TRADE OF THE CENTURY IS SETTING UP),
(TLT),
(HOW TO BUY A SOLAR SYSTEM),
(SCTY), (SPWR), (TSLA)
