The LaDucTrading Gone Fishing Newsletter is divided into basically three parts:

1. Reflections and Inflections
2. Events This Week and How I’m Trading It
3. Macro Considerations

Reflections and Inflections

August may be known as the month of Volatility, but September is regarded as the the worst month for stocks. Simply put, August may have the biggest, unexpected volatility spikes from a place of complacency, but September has the largest draw-downs in equities, historically. So what’s at stake, or should I say, at risk:

1. Interest rate decisions from the FED, BOJ and ECB
2. North Korea nuclear threats and Trump’s potential retaliation
3. China trade war (ramping up with No Korea)
4. Debt Ceiling and potential S&P downgrade if we don’t raise
5. Houston bail-out and preliminary impact on GDP, home sales, employment, debt, energy sector
6. Russiagate and broader Mueller investigations
7. German elections
8. China’s new Congress
9. Sell Rosh Hashanah, Buy Yum Kipper
10. Isn’t that enough?

Trade Wars

Assume news flow this week will be focused on North Korea’s most recent nuclear (not just missile) test and Trump’s retaliatory posturing to be focused on China. That’s right, I said China. Since N. Korea exports 97% of its trade to China and Trump tweeted US would not only sanction No. Korea but all countries that do business with them, defacto threat is in fact squarely focused on our largest trading partner, China.

In my 2017 Guideposts article, I highlighted China as a potential trigger for a US Trade War and Dollar spike:

Remember when they suddenly devalued the Yuan in August 2015 causing SPY to pullback 8% in rather short order? This was when we had good relations with them! More to the consequences:  further devaluation of the Yuan as a ‘trade war’ reaction from China will only drive more Asian currency devaluations which then ramps up the US Dollar too much, too soon  (2014 redux). The dollar rose 25% in 2014 …

 

Instead of antagonizing China and other trading partners, wouldn’t Washington be wiser if they acknowledged the problem that the US runs an enormous trade deficit because our whole economy depends on imports as we do not presently have the capacity to replace those imports with domestic goods. And what about the US Dollar, particularly when 93 per cent of US imports and more than 40 per cent of global trade is invoiced in US dollars. …

 

And with nearly $10T of outstanding offshore debt is denominated in dollars, that would make it that much harder to service. And wouldn’t you know, about 80% of China’s non-financial corporate debt is dollar-denominated. …

 

A stronger dollar means they must somehow come up with more of their local currencies to repay their dollar debts. And they will have to do it fast, even as their exports are shrinking because US consumers are being encouraged to “buy American.”  It gets worse. To whom is all that emerging-market debt owed? Primarily to Western banks and bondholders, who are often themselves excessively indebted.

Color me skeptical, but with US economic growth waning (even before Harvey), US inflation continuing to disappoint, the Fed about to reduce liquidity through balance sheet reduction, what is Trump trying to accomplish by threatening a trade war with China in addition to a military one with North Korea?!

Risk Parity Trade

Part 1: Volatility Begets Volatility

You’ve seen my recurring theme and charts on this thesis. Here’s another perspective with the same ‘reversion to mean’ warning: The SPY annualized volatility over the last 12 months is: 5.6% which is as low as it gets.

Part 2: Gold is the New VIX

In time of deflation/disinflation and central bank distrust, Gold historically catches a bid. Add to that we have seasonal tendencies for gold strength in addition to geopolitical and military risk. Is it a wonder Gold is up 15% this year to SPY’s 10%? Smart money is hedging with SPX puts, while buying Gold and selling the US Dollar. Gold/Silver miners have actually led Gold which is even more of a ‘Tell’ Gold is in favor again. But all of this is fragile if the US Dollar spikes–either from an oversold condition or from potential trade war with China.

Gold is also doing better than bonds (all bond categories) for the first time in six years and has broken out and outperformed stocks for the first time since 2011. TIPS (Treasury inflation protected securities) is down 13% relative to gold which shows inflation is not currently considered a risk but global stability is as seen when investors favor gold assets over the safety of bonds. Even TLT, which often trades in tandem with gold, is up only half as much. But most telling of all: Gold miners rose twice as much as gold last week with a very impressive 3:1 margin since the start of 2016. That’s what I call stealth ‘risk-off’ positioning.

One very likely reason gold has outperformed bonds is the fear rates might rise, by design or default from tapering, putting pressure on bond holders. Gold may be seen as a safer bet to bonds and overvalued equities. Historically, it is a good sign for gold when Miners lead Gold and Gold leads SPY.

 

Events This Week and How I’m Trading It

Economic Reports

Economic and earnings reports are light this week on top of a shortened 4-day work week. Most of Wall Street’s ‘A-team’ returns from summer vacation and volume should most earnestly pick up. There are some US and Eurozone reads on Services PMI as well as a scattering of GDP and inflation reports. Wednesday sees US Trade Statistics and PMIs as well as the Canadian rate decision in front of NAFTA talks. All eyes will be on Thursday’s ECB rate decision and press conference which times with crude inventories in the wake of Harvey. The Euro is up 15% this year while the USD has fallen 11% and both can reverse sharply on Draghi. Friday features German trade statistics and continued Euro volatility so watch the DAX as well.

Monday:  NONE
Tuesday:  Eurozone Services PMI’s, Retail Sales, US Factory Orders, Australia GDP
Wednesday:  Germany Manufacturing Turnover, Factory Orders, Construction PMI, Italy Retail Sales, US Services PMI, Services ISM, API Crude Inventories, Australia AIG Construction Index, Retail Sales, Trade Balance
Thursday:  Germany Industrial Production, Eurozone Final GDP, US Jobless Claims, Productivity, Doe Crude Inventories, Japan Bank Lending, Current Account, Final GDP, Australia Home Loans, China Trade Balance
Friday:  Germany Trade Balance, Spain, Finland, France, UK Industrial Production, UK Trade Balance, Construction Output, US Wholesale Inventories, China CPI, PPI

Earnings Releases

Expected Move

Last week market makers priced in a $24 SPX move up or down and we exceeded the expected price target of $2467 by shooting up to $2480 with close of $2477.  Nasdaq was expected to move ~$2; it moved $6!  As I highlighted in the Member Trading Video, my price target for IWM last week was $137.67. We closed at $140.50! With that, and given we have entered the month of September and many market-moving catalysts, I doubt we will stay within the market makers’ $20 move for SPX.

Member Trading Video

Member Trading Video will be sent separately with trading notes to accompany it.

Remember the Member Trading Video for the week of August 20 and Friday August 28 Member Trade Update Note. I think it’s fair to say the calls and the gains were out-sized: IWM; XLF, AIG; WTIC USO, CVI, HFC, RRC, RIG, VLO, MPC; X, CBI, AA; GDX, SLV, TLT; HTZ; BABA, AAPL, AMZN; SNAP, TWTR; RH, CMG, JCP, M;  TEVA, MYL, THC, GILD!

Will Refining Stocks continue their rally? Remember when I recommended oil refinery stocks pre-Harvey: The crack spread is now ~$25 post Harvey. It was was $35 w Ike and $60 w Katrina. Have a look at MPC, VLO, HFC, CVI since that call. Next up to trade in Harvey’s wake: Autos.

Macro Considerations

Copper Leads Yields

Copper is up 20% since May in large part due to strong infrastructure investment by China to maintain their 6.5% growth rate in 2017. The Chinese and US 10-year yields and copper prices are very closely correlated. When they diverge, copper is usually the Tell. Interestingly, US yields have been falling but China’s have been rising. This is my worry: That the 19th National Congress of the Communist Party of China will emerge this fall and the bid in China-related assets will dissipate. Since lower copper can lead to lower yields–in China and US–the reflation trade under the surface may not last.

With history as a guide, from 2014-2016, we had a strong USD contribute to global dis-inflation – lower commodity prices. Then we lost 11% value in USD this year which contributed to a surprise burst in the global commodity reflation trade: copper, coal, steel all hit highs not seen since 2014. Point is: the direction of the USD will greatly impact the “reflation trade” in the short term but China will strongly influence it longer term. With the US 10-year TNX sitting on 2.12% support above a 1.8% gap fill, it might pay to expect a test of the reflation trade thesis: first with a USD bounce, followed by the FED interest rate/tapering decision and finally with the “new” China Congress occurring October 18th, all of which might lead to a repricing of the 10-year yield and commodities–lower.

Bad Breadth

Bad Breadth reflects how 50% of stocks are below their 200D since February of this year, despite indices near all time highs. What’s even more telling is how ‘fair value’ for the SPX is about 2 standard deviations below, roughly 10% lower. h/t @callum_thomas 

https://twitter.com/MilwaukeeBonds/status/902935758062972928

Would Fitch Downgrade U.S.?

Last week I wrote about the Debt Ceiling Dilemma and how the last time Congress fought over it, US credit rating was downgraded and SPY dropped 19%. Here’s what Fitch wrote when it threatened downgrade of the U.S.’s AAA rating in early 2103: “In Fitch’s view, the economic impact of stopping other spending to prioritize debt repayment, and potential damage to investor confidence in the full faith and credit of the U.S., which enables its ‘AAA’ rating to tolerate such high public debt, would be negative for U.S. sovereign creditworthiness,” So, is this time different?

The public’s trust in the government will fall after a downgrade, making the chances of fiscal policy improvements even harder.

 

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At LaDucTrading, I analyze price patterns and intermarket relationships across stocks, commodities, currencies and interest rates. I develop macro investment themes to identify tactical trading opportunities and employ strategic technical analysis to deliver high conviction stock, sector and market calls. My annotated Charts are meant to do most of the talking and illustrate my Thesis, Trigger, Time Frames, Trade Set-ups and Option Tactics. When applicable, I note Unusual Option Activity (UOA) and Deal Flow. I also keep a Tally and follow a Trade Plan, both of which are made available to members. No proprietary indicators are used, just solid chart pattern recognition, volatility insight and some big-picture perspective thrown in.

I value your feedback. Let me know how I can help! I value referrals. Let others know I am here to help! Samantha@laductrading.com.

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