"Everyone has a plan 'till they get punched in the mouth" - Mike Tyson

July 28, 2014

Greased wheels

Something struck me from Michael Mauboussin's book More Than You Know.  He suggests that when M&A activity picks up in a big way, the acquirers are usually struggling to achieve returns much higher than the cost of capital.

This makes sense as managers get greedy watching their stock's price rise.  Naturally they want that to continue as their internal growth strategies mature.

Case in point 3D Systems.  They acquire a new business seemingly every month just so they can move numbers around and make their results look better.

As you probably know, Jeremy Grantham's GMO has a new quarterly letter out.  He's expecting the next two years to be a golden age in M&A with low rates and a 'young economy'.

"Don’t tell me there are already a lot of deals. I am talking about a veritable explosion, to levels never seen before. These are my reasons. First, when compared to other deal frenzies, the real cost of debt this cycle is lower. Second, profit margins are, despite the first quarter, still at very high levels and are widely expected to stay there. Not a bad combination for a deal maker, but it is the third reason that influences my thinking most: the economy, despite its being in year six of an economic recovery, still looks in many ways like quite a young economy. There are massive reserves of labor in the official unemployment plus room for perhaps a 2% increase in labor participation rates as discouraged workers potentially get drawn into the workforce by steady growth in the economy. There is also lots of room for a pick-up in capital spending that has been uniquely low in this recovery, and I use the word "uniquely" in its old-fashioned sense, for such a slow recovery in capital spending has never, ever occurred before. The very disappointment in the rate of recovery thus becomes a virtue for deal making. "

I've got a handful of thoughts on this.  Lets start with margins.

If margins are strong, rates of return likely aren't falling closer towards internal rates of return unless growth is maxed out and slowing.  Following that logic, there wouldn't be a massive M&A boost until we're at the end of the economic cycle.  Since there is this large amount of 'slack' in the economy, wouldn't that mean we're quite far away from that point??

Of course for ages we've heard that cash piling up on corporate balance sheets + low rates are reasons to acquire.  Well, what's new?  Possibly increased confidence and or greed due to a rising stock market.  Unfortunately, the real world has to deal with this mess of a political/economic/tax climate?  These issues are on the W.S. backburner right now, but they are as bleak as ever.

Consider me a skeptic.  Massive psychology shifts take years and years to unfold and right now there is no urgent incentive to take advantage of low rates.  We're living in a ZIRP world.  That incentive probably won't initiate until we see a pretty significant spike in rates.

While Mr Grantham may be correct about this boom, his argument doesn't exactly add up for a M&A golden age.

(BTW, I don't participate in an Amazon affiliate program, just wanted to share what got me thinking)

July 23, 2014

Major divergences

As we're seeing one of the best earnings seasons in recent memory, meaningful divergences are showing up in market breadth.  This is going to a problem for the market at some point in the near future.

We see the NYSE stock only advance-decline line is barely bouncing after the major breadth sell-off of the past couple of weeks.


The highly concentrated Nasdaq ETF QQQ has reached new price highs while the Nasdaq Composite has not.  We can also see the major divergence in the A-D line.


Let's not forget the major divergence in high yield corporate bonds. 


Also every measure of risk in the bond market has been flashing caution for awhile now, but it just hasn't mattered.  

The example I've shared time and again on stocktwits and twitter:  the high yield to investment grade corporate bond ratio is breaking down below the largest top in the history of these ETF's.


These divergences are definitely warning signs, but we can't act like the markets will immediately acknowledge this.  They haven't.  

It feels impossible that these divergences are setting up with all our favorite large cap stocks crushing earnings and trading higher, but that's what the market does.  

It's smart to be skeptical of the rally, but there is no logical option but to wait for an evident reversal to take a shot short.  Who knows when that'll be, but it feels like it may not be too far off.  Until then, we can ride the large cap fund faves on the long side.   

July 20, 2014

Swing low in?

We all know this has been a buy the dip market.  Was Thursday's drop the culmination of another dip?  If the stock only A/D line is any indication, yes!  


Of course it's pointless to use a single indicator in any market decision making, but the recent track record is interesting.  That said, we're seeing the largest rollover in high yield bonds in a year.  Maybe this time is different?

Trade 'em well!

July 18, 2014

Biotech valuations

By now you've probably heard about the Fed's comments on valuations. If you haven't here they are.

"Valuation metrics in some sectors do appear substantially stretched—particularly those for smaller firms in the social media and biotechnology industries, despite a notable downturn in equity prices for such firms early in the year"

Today, an analyst responded  to Janet Yellen and challenged the Fed's statement offering this chart.  He mentioned valuations are in line with the historical median and 80% below the peak of the tech bubble(yep, no slant here).

Chart from ISI


This response is complete B.S. The FED only mentioned the smaller biotechs and this guy comes at us with with notes on valuations of biotechs in the Russell 1000.  

Just from cross referencing, we can see there aren't names under a 2B market cap in the Russell 1k member list.  This chart is leaving out 90% of all biotechs!!  

Finally, of course they had to include comparing the uber high P/E's of the tech bubble while biotech was an infant of the industry it is today.  Who even offered that P/E is the correct way to measure value for the industry?  But screw it, right?  Publicity is publicity.   

What makes this a tough topic to discuss is the permanent dichotomy in the biotech group.  The mega caps like CELG and GILD are still fairly valued to cheap given their growth rates, while there are a ton of clinical stage companies that are just burning cash and likely will never make a successful product. 

I'm with the Fed on the smaller names.  There is a lot of hope priced in right now and hope is an expensive premium.         

What do you think?  give me a shout @atmcharts on twitter  

July 17, 2014

Wrapping up a wild Wednesday

What do we make of today's action?  
  • New Highs in the Dow Industrials and Transports as 
  • Energy leading, Crude up 1%
  • Russell 2000 Red
  • MSFT at a new decade high
  • A lift in materials while copper was down 1%
  • Biotech down 1.5%
  • TLT green, high yield bonds red

Confused yet?  If so, you're not alone.  We might as well score one for the 'don't pay attention to daily movements' crowd! 

This market seems all too similar to the spring.  However, unlike the spring, high yield corporate bonds are leading the market in rolling over below the 50D MA.  



Stock move of the day: 

Horizon was one of the best pharma plays before Biotech broke down in March.  It's failed to reach those highs and is now breaking gradual support.  Is a test of the 200D next?


Trade 'em well!


The inflection point of the year is quickly approaching

We've got four cycle inflection points lining up for the weeks of August 4th+11th.  These inflection points were measured from key peaks-troughs on various timeframes from 2009-2012.  

Whether these are suggesting a peak or trough remain to be seen(two suggest peak, two trough), but it may actually be worth being long vol into August expiration.

In January 3 points suggested a peak and gave us the 6% January correction. 



There's no point in trying to predict the future, but having heightened awareness can't hurt, especially with the divergences we're starting to see in high yield + small caps.

Trade 'em well

July 15, 2014

Yellin about Yellen

Today the Fed dropped a bomb on Wall Street's psyche by specifically naming areas of the market are over-valued.

Unsurprisingly there was an uproar of whining that all sounded like:
'what is Yellen doing talking down my small cap, biotech and social media stocks?!!'

In the midst of that noise, most are missing the point the market is making.  In the last few weeks every hint of inflation has vanished.  It's astonishing.  Just last week the noise was how the Fed will be behind the curve re: inflation.  Now with QE set to end in October, we have this potential paradigm shifting reversal shaping up.  This could get very interesting in a hurry.

Tomorrow's PPI and Next week's CPI (Tuesday pre-mkt) and the reaction to them will be interesting.  

Trade 'em well

Fumes coming from the Bakken?

Over the weekend Kodiak, a Bakken pure play energy producer, merged into Whiting Petroleum at a discount to the current share price. 

Takeout rumors have swirled around KOG all year, and it was up 30% year to date vs 16% for the energy producer ETF XOP.  However, in such hot, highly acclaimed acreage, 0 premium makes little sense.

There is the idea floating around the deal makes the two companies a more attractive takeover target by a mega cap like Exxon.  Pffff!  This isn't a gift basket we're talking about!

Kodiak is highly levered, with little in tangible assets.  It's likely their existing well yields were dropping off.  That gave them two options:  either do a huge offering or sell and get backing from Whiting.  If that was the case, it was a reasonable choice.

To monitor the situation, you'll want to watch the other Bakken plays OAS and CLR.  As of this writing, they're both down 5% since the news.  XOP is down 2.7%

Trade 'em well and don't huff the fumes(for too long)

July 08, 2014

Market out of whack! What does it mean?

Ever since the financial crisis, the Transports to Industrials ratio has traded laregely in sync within a falling channel.

Why?

Well, it's the chart-art barometer of goods shipped / economic activity and it makes sense it'd flow within a range throughout the business cycle.


Interestingly, it broke above the channel in the recent monster transports move.  

Does this mean anything?  

I'll hypothesize it means there is an excess in Transports that needs corrected in the next pullback.  That pullback may just be right here and now.  After all, when the ratio broke the lower boundary into the 2012 election, it immediately snapped back on a market pull back.    

Looking at the IYT daily chart, we have warning signs in RS and momentum not confirming new price highs. It's definitely vulnerable to a moderate correction, within a rising trend. 


Looking at XLI, the bear case is relative strength has fallen off the map as price has failed to make a new high.  The bull case is it's building a very attractive base and the economic data is there to support it.


One last thought:  Why would a paradigm shift occur 5 years into a major market move?  

It seems likely the best way to play this is long industrials as they catch-up.  Or you could pair that with a short transports as they start to come back to earth(that's not a given).     

Trade 'em well!

A few blurbs

Across the board Airlines staged reversal days on high volume: UAL, AAL, JBLU, ALK

Gold miners also staged a strong comeback to close near highs after giving up the morning gap.

An ugly support loss: SLCA

Rising 50D test: EPAM, HZNP, ENTA

Rising 200D test: MHR, ATRO


This CAVM chart is awesome.  One could say it's a H&S top or it's just 50D MA test within a rising trend.


Five Below with a 3 month H&S bottom?

Fresh RS - KVHI, RVLT, VSEC, GME, CYD

This is a photo of some of the bombing in the Gaza Strip today.  Things are TENSE between Israel / Hamas and seem to be escalating.  Does this impact our markets?  Probably not, but it gives us a lot to be appreciative of.  


Trade em well!

July 06, 2014

Rotation report 7/6/14

A lot of new themes have popped up in the last few weeks.  Let's dive in

Are industrial metals leading China?  The S&P group index has broken out to 15 month highs.  


The Shanghai composite has found support at 2000 throughout 2014 with the weekly RSI settling into a neutral range.  

The FXI / SPY ratio has broken a nearly two year falling wedge.  This is a major turning point that asset allocators need to be aware of.

The China real estate ETF has broken out of an 18 month consolidation.  Is the vaunted real estate bubble completely baked in?  Heck yeah.

The EEM hit 3 year highs last week as it's RS vs SPY forms a bullish consolidation pattern.  It sure appears emerging markets can outperform in the second half.  


The S&P 500 relative to the 30 year US treasury has broken above 2008 highs.  Does it stick?

The Silver/Gold ratio is at 1 year resistance.  We could really see some traction in the group if silver takes it's leadership to the next level.

Specialty Retail has broken out of a half year consolidation.  Is the consumer stronger than we think?

That consumer breakout is coming as energy starts to pull back.  A coincidence?  Definitely not.

Give me a follow @atmcharts on twitter and @a_jackson on stocktwits for daily notes and ideas not posted here.

Trade 'em well!

July 02, 2014

The Technium: part 1 of many

Tech vet Kevin Kelly sat down with Edge to discuss what he calls the technium.  It was a very enlightening listen, but one point in particular caught my attention.

When speaking on today's technology, he mentioned that the confluence of technological enhancements over the years has led to a world that WANTS to be tracked.  In our lifetimes, we'll never see a world that is less tracked than it is now.

It's nothing breakthrough, but it's great point.  Businesses like comScore (SCOR), which is closing in on all time highs, have a heck of a secular force in it's favor.

What are your plays on this secular force?  There are plenty out there!

Reminder:

All ideas shown on this blog represent the authors opinion based on the data available.