She’ll be comin’ round the corner when she comes…

Here’s a roundup of the usual markets, plus a look at grains. This topping process is frustrating, but the action remains encouraging for those waiting to profit from a resumption of the deflation trade. Even as some stock indexes make new highs, they have been revealing their weakness with low volume and advance/decline ratios. The currency and metals markets are signaling exhaustion, and Treasuries have refused to participate in this summer’s nonsense. To the charts:

The dollar to stock inverse relationship is still strong:


With only a few % of traders (DSI) bullish on the dollar and about 90% bearish on stocks last week, and respective 20-day averages similarly extreme, a big reversal is imminent. We first entered this condition in early August, and we have not had a significant correction to relieve it, but it has grown even more extreme, so when the break comes it is likely to be very large. My theory is that the more extreme sentiment gets, the sharper the reversal, and the longer extremes are maintained, the larger the degree of that move.

From a trading perspective, I prefer dollar longs (via euro, pound, CAD and AUD shorts) and gold and silver shorts as optimal short-term plays right now. This is where the single-digit DSI readings and exhaustive spikes are to be found. Short entries from this level allow for tight and well-defined stops.

Risk appetite remains very robust across the board, with investment-grade corporate bonds back to the kinds of yields we saw near the peak of the credit bubble. Here is the LQD ETF:


The above is sure to end very badly, since corporate revenues are off a whopping 25% since last year.  Treasury traders are holding up a big red flag and are not participating in this summer’s risk binge, but keeping a steady bid under the entire yield curve. Bonds made their bottom in June (TLT and IEF here — 30 and 10 year proxies, respectively).


I almost never mention the agriculture markets, but I have been watching them all summer, and I think there may be an opportunity coming up for a short-term play on the long side of grains. Wheat, corn and oats have been in a downtrend for much of the last two years, and their slides may be approaching termination as DSI readings enter the 7-18% range. This is similar, though not yet as extreme as what occurred in the natural gas and hogs markets recently, and those went on to violently reverse to the upside. The grain charts are not yet as pretty as those, and sentiment has some room to allow for an exhaustive plunge, but if it happens that would be a very nice buying opportunity, especially if we get a few consecutive days of single-digit readings. Here’s a weekly chart of wheat, my favorite:


Corn here:


That about wraps it up. In summary, I’m feeling good about my long-term equity puts, but even more excited about the set-up in the currency and precious metals markets. I always like to able to go long something relatively uncorrelated, so it’s nice when a random commodities like grains provide such an opportunity.

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12 thoughts on “She’ll be comin’ round the corner when she comes…

  1. Thanks for sharing your ideas with us.

    Yeah, when gold commercials happen during prime time, when China exhorts its citizens to buy gold, and when gold is being sold by vending machines in German airports, I guess it’s time to think about shorting.

    Speaking of commodities, sugar has had a tremendous run-up. But the chart looks like it’s now making a strong move down.

  2. Mike, any idea what might happen to the corn ethanol industry? There have been some major bankruptcies, and calls for bailouts. If this leads to repeal of the fuel mandate, then corn (and other grains) will fall further. Given the “green” hue of biofuels, my guess is that the current administration will prop it up as long as it can. But this course has political hazards.

  3. Ethanol is uneconomic, so it should fade away eventually. Who knows what the govt will waste on it in the meantime?

    This doesn’t really matter for my grain idea. I do actually think grains could head a bunch lower, since they were in such a bubble recently, but they could have a nice bounce here if things set up right. Bear in mind, I haven’t entered a trade yet, and if I do, I will likely only hold for days or a few weeks.

  4. Some fodder for the Prechter bashers:

    (From 2002 where he didn’t call a bottom then)

    Well, I found this by searching for protectionism and social mood. I wonder if the politicians will support Obama’s tariff (I suppose they would,) but of course interest groups would support it.

    If we assume protectionism does lead to long term economic growth, one can simulate the effects of protectionism with the iterative prisoner’s dilemma where the participants are individual countries (this does not simulate politics correctly though.)

    If player A defects and player B defects their payoff would be (let’s say 2); If play A defects and player B cooperates, A gets 6 and B gets 0. If they both cooperate, they both get 4. (The numbers are hypothetical though.) For a single round, the Nash equilibrium obviously leads for both parties to defect. An iterative scenario is different though; the payoff for cooperation would be 4/(1-r) where r is the discount factor (which shows the extent each game is discounted relative to the previous game that where 0 < r < 1. A higher r means that the payoffs from futures games). Lower discount rates (and higher discount factors) would mean a higher value for cooperation.

    Social mood should lead to higher discount rates and since the gains from trade are small, it is likely that protectionism would be supported.

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