Market Overly Frothy – Unexpected Turn After FED Report

Overview:

The Fed may have hit the brakes on the stock market, as gold and treasuries rally, and the Dollar reverses.  Bitcoin continues to grind higher as it eyes 4180 with a boost by the weak Dollar.  The stock market wanted more froth in the tone of a dovish Fed and they got it. Sometimes we should be careful what we wish for, and the market got exactly what they wanted, or so they thought.  Forex traders were overly positioned short the Euro, after all they have a slowing economy right?  What they did not take into account is the “Carry Trade” and the rush to Treasuries.  

Remember this, smart money tells you what they want you to hear, not what they want you to know.  So why did the market give back most of the 2:00 pm rally?  Maybe it wasn’t what the Fed said, but what they alluded to ever so softly.  Remember markets are dynamic, and forecasts, are based on historical data.  In other words, we are always trying to figure out the road ahead, by looking in the rear-view mirror.

Normally we only send these to our paid members, but the Fed meeting was significant here and since it is relevant to the market overall, we decided to send this article out to all our members.  In addition this article is longer than usual but there is a lot of information to cover.

Subtle Changes in the Fed Statement:

There were some distinct changes between the January Fed statement and March’s.  In January the labor market “continued to strengthen”, in March the labor market “remains strong”.  Economic activity in January had been “rising at a solid rate”, today “it slowed from its solid rate in the fourth quarter”.   Job gains were “strong” in January, but February payroll was little changed, and the words chosen were “solid in recent months”.

They also noticed slower household spending and fixed business investments in the first quarter.  These small little nuances in the Fed’s statement, pretty much confirmed what some of the smart money already had known.  The economy is slowing.

This is not a “the sky is falling sell everything and buy gold” moment, but one that may provide some great opportunities in the near future.

The weakinging Dollar effected all markets and Bitcoin was no exception.

Bitcoin Daily:

Bitcoin continues to grind higher and 4180 is clearly on the table now.  This 4125-4225 target area is well within sight, but a risky area to open up a new trade.  The structure is not well defined, though it is trying to evolve, and continuation trades are higher risk of failing here.  

The reason being is the selloff back in February should not have pulled back as far as it did.  Maybe this is an anomaly, but if the structure and environment is not right, we pass on trades.  This is just our conservative nature.

Yet this is likely an initial impulse wave of a broader move.  If we are correct there will be plenty of opportunities ahead, no sense in taking unnecessary risks here, especially when the target is so close.

If you look at an hourly chart, about 1:59 the market was setting up for a short, at 2pm it opened and just went up.  Again markets are complex and there are numerous variables.  This was probably a Dollar move, but could be a sign money flowing into the space is increasing.  At this point I am looking to buy the dip and if you did not read Marc’s article yesterday.

Bitcoin Weekly:

Until Bitcoin takes out the 4500 area we must remain cautious that a pullback is still probable, as bullish as we are in the mid to long term.  There is a lot of resistance here and a pullback to 3600 would do a lot to flush the market of weak hands, setting up for a broader rally.  How it plays out is anyone’s guess, but we are looking for longs and a broader move higher.

 it was a great explanation of why we are waiting for a dip, and not buying into resistance.  If it rallies we have been accumulating over the past year, and have averaged our cost down on position trades into the 4k area.  We will get the benefit of any rally and can use our capital for position trades on pullbacks.

LTCUSD Weekly:

The structure is better defined with Litecoin and since the market is correlated, this is the basis for what cycle we are in the crypto space.  Litecoin is still in a bullish trend, but this is a major area of resistance and a risky place to open new long positions.  This is an area to trim out, or close previous trades on any sign of weakness.

Yet the broader trend is still intact, and there 82.0 does not seem like a far reach from here.  Regardless there is a lot of resistance here and this increases the likelihood of a pullback.  What we are looking for is a pullback and reversal in the 40 area or even the low 50’s.  This is where I personally am an active buyer.

LTCUSD:

We have a valid 5 wave impulse cycle and for this reason we heed caution adding here.  This is only one fractal in a broader move, yet the corrective structure may be more complex than a simple ABC corrective pattern.

Again there is nothing to do here until we start blowing out resistance areas or pullback and reverse off support.  The structure is better defined here, which is telling us the market favors Litecoin, at least in the interim.

We are smack in the middle of broader resistance at 75.0 and broader support around 45.0.  Not an area conducive to trading, unless we were in a solid trending market.  Just not enough evidence there for that yet.

ETHUSD Weekly:

Ethereum is just not reacting like it should if there was a lot of demand.  The narrow range over the past few weeks does not provide a decisive market, but a market deciding on whether they want to own Ethereum.  The 275.00 level is a key level to take out to provide a bullish thesis, there are just so many challenges ahead for Ethereum and this is one reason we closed out this position trade.

ETHUSD Daily:

Ethereum is setting up to take out the 140.0 level which it has struggled with over the past month.  If it can take out the 140.0 area, there is a nice path to 170.0.  This is only the beginning of a long journey Ethereum must make to become bullish.  One challenge with Ethereum is scaling.  As other blockchain platforms, both centralized and decentralized, compete for the smart contract market, I am looking to exit my position entirely.  In my opinion Ethereum was revolutionary with their platform.  Yet like many companies that had revolutionary breakthroughs, this does not always lead to profits.  Just look at how Apple and Samsung dominate the phone market, and companies like Motorola, Nokia, and Blackberry have faded into abyss.

For those that still like Ethereum I would either be waiting for a pullback into the low 120’s upper teens, or a push higher and position for a continuation trade.  Again this market as a whole is in a tough position to take trades, or open new positions.

Gold:

A trade we almost took yesterday, but with the Fed meeting on deck we decided to pass.  Remember these types of moves are easy to point to after the fact, but risking money before the fact is entirely different.  The sentiment on Gold was overly bullish going into the meeting with nearly 3:1 long interest.  This is why we did not take the trade, there was too much bullish sentiment, and like the bearish sentiment in the Euro, it can end badly being positioned with the herd.

The initial target is 1330-1340 and we will look to enter a trade on a pullback and reversal, or a continuation move once the initial swing exhausts.  Entering here is just chasing, you are either in the trade or you are not.  We need to see some of the early bulls take profits and look to enter at that time.

The Meeting:

Going into this meeting we really expected a big nothing burger to be the result.  After all everyone and their brother expected a dovish tone from the Fed.  This is what the market wanted right?  They even tabled all but one rate hike through 2020, which was probably the initial reason for the swing in gold. Initially it was one or so in 2019.

Initially the market rallied, but so were treasury prices and gold as well.  (As treasuries rise, yields come down).  In addition the Dollar pulled back and the Euro rallied along with other currencies like the Kiwi and Aussie.  What did the market not price in?

Quite simply the Fed went from being dovish to accommodate the market, to being dovish because global economies are slowing down and signaled ever so softly a likely rate reduction.  This creates a demand for safe haven equities like gold and treasuries, and a rotation out of the Dollar which was the receiving end of the “carry trade”.

Forex is complex:

For years the Yen has been considered a safe-haven currency.  This has less to do with being a safe haven, and more to do with the “carry trade”.  This is where larger traders borrow in one currency to take long positions in another currency who’s central bank has a higher rate.   Japan is now not the only country to have low rates, the ECB also has low rates, which would make the Euro a “carry trade” candidate.

Keep in mind the currency market is far more complex than can be explained in any one article and dynamic so fundamentals change rapidly.  There are so many variables that one small change can create the butterfly effect.

EURUSD:

The Euro continued to fall over the past couple years making the “carry trade” more profitable to borrow in Euros and short the Dollar.  As long as the interest rate spread between the Bund and US treasuries remained high, a large trader could borrow in Euros at a low rate, and buy treasuries at a higher one.  Similar to borrowing money from one bank at 1% interest and buy a CD in another bank at 2.6% interest you would make the difference.  This is one of the fundamentals behind the “carry trade” among.   If US treasury yields move lower, the market as a discounting mechanism prices this in.

It is a lot more complex than it appears, as there are swap rates and other variables that all go into determining whether a “carry trade” is worth while.   This is also for large investors and banks that have access to these markets, not for the retail investor trading Forex.

Bottom line the Dollar was showing us some signs of reversing over the past couple weeks, and the evidence was right there in the charts.  Forget about the fundamentals of “carry trades” Treasury bonds, the market is the perfect discounting mechanism.

DXY:

We mentioned last week in our SC Weekly and our recent podcast that we were noticing some subtle changes in how the DXY was acting.

In February, the DXY appeared to be resuming its bullish trend and the pullback in mid-February is not out of the ordinary.  Yet the market pulled back further than we would expect.  The subsequent rally put some faith back in the market that the Dollar was still strong.

About 10 days ago we got an initial selloff after retesting the previous high. Once it fell through the 97.0 level, we thought “wait this should not be happening here, something is changing”.  This was our first clue that there may be a change fundamentally in the market.

The rally in late September is the type of structure we are looking for, yet everything is clear in hind-sight.  We never know how the market unfolds.  The expectation was a retest of the 97.0 level before pulling back further.  Well markets seldom unfold how we expect, and today it simply pushed through the bullish trend-line.

We are now looking to short the Dollar, but let the market settle first.

S&P

Initially after the Fed announcement the market tried to rally, but this rally turned and we closed lower on the day.  The market is actually attempting to set up for a short.  The Teflon market was looking for a dovish tone from the Fed, this is what they got, yet the outcome was not as expected.

This is why we say over and over, do not listen to large funds managers.  It is never in their interest to reveal their hands.  No different than playing poker with Phil Helmuth, do you think he is going to truly reveal his pocket cards while in a hand?  Neither do large fund managers.  They may give you a hint, like we own Apple and like it long term, but they are not revealing their strategy. Not fully at least.

On top of the Fed meeting we are about two weeks out from earnings season.  Now that the market is on edge, any signs of future earnings and revenue downgrades is going to hit the market hard.  We are seeing initial signs as the XLF or financial ETF sold off.  Now is this because there are no continued hikes? This was already priced into the market, it was the statement “slower fixed business investments”.

This is not only bad for the banking sector, but for construction and ultimately growth.  I want to be clear, millions are not going to wake up tomorrow to a pink slip and a collapse of the economy.  Many recessions are not even identified until the recession is over. Yet markets tend to over-react and any signs of weakness is a catalyst for a selloff whether valid or not.

Earnings Recession on the Radar?

Keep in mind we are at historically low unemployment and there is still a lot of job openings out there.  We are not calling for a collapse of the US economy, but we may be looking at a slowdown in earnings growth.  This is called an earnings recession.  Completely different than an economic recession and 13 of the 22 S&P 500 earnings recessions were not followed by an economic recession within 2 years.

Any company that has a heavy labor burden like retail and the services industries are going to feel the pain.  Other sectors like construction and heavy equipment will also feel the pain as businesses scale back on investments and focus on margins.  So the key moving forward is looking for companies that are less labor intensive.

Wages are rising and mostly at the lower pay scales.  This puts pressure on margins for companies, that are exposed to labor and commodities.  Commodity prices are up, oil is up, all this weighs on net margins.  So where is there potential for growth?

NADAQ:

The NASDAQ actually finished up on the day and continues to show some strength.  Is this a mixed signal?  Maybe it is confirming a future slowdown and larger fund managers that are required to keep a high percentage of their portfolio in the market are rotating into the FANG type stocks.  Yes in even the most bearish markets there are growth stocks, and we may be seeing a rotation out of cyclical stocks like CAT and others into tech.

We saw the semi-conductors rally recently and other stocks for which companies that want to stay ahead of their competition require the need for.  If companies have to pick and choose what upgrades and investments they are going to take on, it is likely an expansion of cloud and other technology investments.

After closing out numerous positions since last October we are going to look for growth stocks moving forward.  Sure we were one of those sitting on cash during much of the rally, but good deals come to those who wait.  If it takes 6 months for the market to pullback, we will wait, but I am not sure we have to wait so long with earnings right around the corner.

Keep in mind this is one of numerous EW patterns, and we may be in a “B” leg of a broader correction, but I personally am not sure of that especially with a broader monthly view.

Here are a few stocks on our radar for additions to our portfolio.

Apple:

The 190.00 area is a major resistance level and the current candle may be signaling a top here.  Tops do not happen overnight they evolve.  We are looking to sell Puts under the 175.0 level initially and would start accumulating in the low to mid 160’s aggressively.  Huge cash float, not debt and a consistently increasing dividend with constant share buy backs.

Just need to have patience as back in early February we were looking at the 155.0 area to add, but the market simply got away.  We just need to be patient.

Spotify:

Spotify is a name we have been watching for months now, and are interested in selling Puts in the low 130’s.  We will use our options strategy to take advantage of volatility and the high premiums collected as investors buy insurance.

Roku:

Roku is another one on our list and we are looking at the 56.0-60.0 area to sell Puts or enter a starter position.  Our longer term target is 90.0 providing ample opportunity for entry over the next few months.

Cronos:

Cannabis stocks are also a potential area of growth and though Canopy Growth, CGC and Aurora Cannabis our the familiar names, we are looking at a couple others as well, including TGODF.

Currently we are short the March 29th, 20.0 strike Put, but are looking to add another.  Patience and risk management has put us in a position where we own about 2250 worth of stock for only 1380 dollars in our model portfolio.

The game is simple, yet few have the patience and tenacity to stick with a strategy for longer than a couple weeks.  Our goal is to own 10k worth of stock in our portfolio at no cost.  It does not happen overnight and will likely take another year or so to come even close.  However, would you rather just lump sum invest into a highly speculative market, or slowly use position trading to build up a small portfolio of cannabis stocks over time?

Most choose for the impulsive move and hence ride the market up, and all the way back down.  Their money really never makes any money or their returns are diminished.  Don’t believe me look at the crypto market last year.  Many rode it all the way to the top, bragged about their paper gains, only to ride it all the way back.  Our portfolio strategy is a longer term strategy that take time and patience, with the goal of removing our capital.

Summary:

This has been a slow week for trading as we stay away from our capital being overly exposed going into a Fed meeting or NFP.  These are two reports that can dramatically change the landscape of the markets.  It is also important not to follow the herd.  The EURUSD was overly short and they were simply crushed out of positions.  This was the Mr. Obvious trade, as everyone knew what the Fed was going to do, what the retail investor didn’t realize is this was going to strengthen the Euro as money flowed back to the borrowing currency of a “carry trade”.

For transparency purposes, we were short the Dollar but paired with the Canadian that just did not act right so we closed it out before the minutes for a small loss.

This all changed when what the market hoped for was not what they expected.  They wanted a dovish Fed with a strong economy, what they got was a dovish Fed and a slowing economy.  Yet there have been signs all along which is why we remained in cash and did not give into the Froth of the market.  Yes this market is overly frothy and when a pullback happens we are positioned to take advantage of it, not react to it.

As David pointed out in the podcast there is always a trade somewhere, and often it is when the market is initially going through a transition or sector rotation.  For the more aggressive stock trader, David has been posting some great trades as of late in his group which is still free.  Check out David’s trading room if you haven’t already.

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