The best weekly equity market rally in two years was “setup” by extremely negative sentiment
The Vanguard Total Stock Market ETF (VTI) had its lowest weekly close in nearly a year last Friday – down ~14% from January’s All-Time Highs. In last week’s TD Notes, I wrote: Equity market sentiment is currently very negative. If/when prices turn higher, the rally could be dramatic.
Extreme negative sentiment persisted early this week. The major stock indices fell on Monday, but sentiment reversed in the Monday overnight session, and the indices began to surge higher. DJIA futures rallied >2,000 points from the Monday overnight lows to Friday’s close. All of the leading American Indices closed Friday at their best levels in over a month, the Dow Jones Transportation index had its best weekly close in four months, and the (commodity heavy) Toronto Stock Index closed at All-Time Highs.
The DJIA, S+P and VTI indices have recovered ~50% of their declines from ATH; the NAZ has recovered <38%. (The different recovery levels hint at the “rotation” since November.)
Extreme commodity market sentiment also “set up” dramatic price reversals
WTI crude oil futures and the broad commodity indices surged to 14-year highs last week; Chicago wheat and New York copper surged to All-Time Highs. The concern was “supply shortages,” but uncertainty, poor liquidity and volatility created fears of existential systemic risk – a grand Minsky moment – when over-levered “Big Shorts” might trigger this market’s version of a Lehman failure.
The peak in the commodity surge was in sync with the “Nickel” publicity, and markets reversed sharply after that.
Currency markets also had dramatic sentiment-driven reversals
The US Dollar Index hit a 22-month high last week, but the real “action” was in Euro spreads. The Euro plunged against the Yen, the Swiss Franc, the British Pound and the USD in February / early March, but reversed higher against all currencies on March 7th.
The Euro Vs the USD:
The Japanese Yen fell to a 6-year low against the USD this week. The prospect of rising US interest rates while Japanese rates stay flat and the possibility of soaring commodity prices apparently paints a dim future for the Yen, and speculators are (not unexpectedly) hugely net short. What could possibly cause the Yen to rally?
Gold spiked and fell back
Comex gold futures spiked to new All-Time Highs on March 8th but were nearly $100 lower within 24 hours. This week, gold briefly traded $185 below last week’s highs.
Gold ETF holdings have risen ~192 tonnes YTD, after falling ~ 287 tonnes in 2021. In 2020 gold ETF holdings increased ~ 751 tonnes.
Interest rates had a different kind of reversal
Interest rate futures rallied briefly around the beginning of March (maybe the Fed would “back off” from raising rates because of the war), but expectations reversed from those levels as the war seemed to be increasing inflationary pressures. Short rates have been rising faster than long rates, creating “inverted yield curves,” which may foreshadow a recession.
The Fed has been following, not leading the market.
My short term trading
I started this week flat, but I was looking for a bounce from last week’s extremely negative sentiment. I made ten trades, beginning Sunday afternoon, buying S+P, Dow and Euro futures. Three of the trades lost money; seven produced gains. I was trading small size with tight stops. I covered my last position on Thursday’s close and stayed flat into the weekend. My P+L was up ~1% on the week.
On my radar
“What are we trading?” is an existential question. Uncertainty, volatility and thin liquidity make it challenging to define/quantify risk. Headline risk is relentless. The possibility/inevitability of another “Nickel” debacle is ever-present. Inter-market correlations continue to shift. Broken supply chains are likely to sustain high inflation, while political risks limit arbitrage that could dampen price spikes and volatility. It’s a Brave New World.
Sentiment drives prices. Extreme sentiment = extreme price action = a set up for extreme price reversals.
This week, the 2,000 point rally in the Dow may have been the beginning of a charge to new All-Time Highs, or it may have been a classic bear market rally. I don’t know, but I’m leaning towards a bear market rally.
I’ll be looking for opportunities to trade price action rather than “hunches” about what “should” happen.
Thoughts on trading
In the January 29th Notes, in the Quotes from the notebook section, I quoted Bruce Kovner from the 1989 edition of The Market Wizards:
“What I’m really looking for is a consensus that the market is not confirming.”
I keep that in mind when I see “retail” rush into some part of the market. The late 1990s Dot-Com boom and the subsequent crash was a classic, but so was the rush in cannabis, ESG, work-from-home, and lately, commodities – except that commodities haven’t crashed yet – and they may not crash, but the bullish “narrative” has been robust. If the bounce-back following the correction from the March 8th highs rolls over, I’ll look for opportunities to fade bullish commodity enthusiasm.
Quotes from the notebook
“The best traders have evolved to the point where they believe without a shred of doubt or internal conflict that “anything can happen.” Mark Douglas, Trading in the Zone, 2000
My comment: I used to have a Post-it note taped to one of my screens that said, “Anything Can Happen.” I had never heard of Mark Douglas when I taped the note to my screen, but I kept it there after reading his book.
I once had a senior lawyer from a big law firm interview me to do some trading for his client. Years later, he told me that he decided to recommend me to his client when he saw that Post-it on my screen!
“The trader’s job is to imagine the future different than what it is now – find a trade that will profit from that change, and manage the risk of that trade.” Ben Melkman, RTV, 2017
My comment: I agree 100%.
The Barney report
It’s hard to pay attention to my screens when Barney wants to play – so I take him for a long walk, which keeps me from getting too wired, and when we return home, he falls asleep at my feet, and I can get some work done!
Chicago dyes the Chicago River Green on St. Patrick’s Day! I’ve seen it and I love it!
If you like reading the Trading Desk Notes, please forward a copy or a link to a friend. Also, I genuinely welcome your comments, and please let me know if you would like to see something new in the TD Notes.
Listen to Victor talk markets
I’ve had a regular weekly spot on Mike Campbell’s extremely popular Moneytalks show for 20 years. The March 19th podcast is available at: https://mikesmoneytalks.ca. Mike’s closing editorial – he calls it his “Goofy” – is a scathing review of the Government’s hypocrisy around the freezing of bank accounts near the end of the Trucker’s Convoy protest.
This week I also did a 30-minute interview with Jim Goddard on Howe Street Radio. We talked about the wild market action, my trading, and what I think may happen next in different markets. The Youtube link is:
Victor Adair retired from the Canadian brokerage business in 2020 after 44 years and is no longer licensed to provide investment advice. Nothing on this website is investment advice for anyone about anything.