Employment Leading or Lagging Indicator?

If you read much on the business cycle then you have probably heard that “employment is a lagging indicator”. We have read and heard it from the mouths of pundits on TV, economists on TV and in print, and in research reports.  But as with anything just because a lot of people say something doesn’t mean its true. The earth was only flat until someone tried it out and realized it was not.

The same goes for employment. If you use the most basic of employment indicators the headline unemployment rate and then match it up with recessions, easily done in Excel with the FRED plug-in (BTW I love FRED and you should too), then you can see that employment is not only NOT a lagging indicator but is not even a coincident indicator. If it doesn’t lag and it doesn’t coincide then what is left? Yes, it is a LEADING indicator. Crazy right? All those people on TV are wrong who would have guessed (read with a heavy dose of sarcasm)?

Here I took the unemployment rate and flipped it to become the employment rate. it is the same data but in a happier more optimistic format. It is overlaid on the NBER recession dates. If you look at it, and you don’t even have to look very closely, you will see that there is a very consistent pattern leading up to a recession. The rate starts to roll over. In the 50’s and 60’s it was barely a leading indicator but since then the lead has gotten longer and longer. How it was ever considered a lagging indicator is beyond me.

Percentage of Workforce That Is Employed

Percentage of Workforce That Is Employed

So what is this chart telling us, or indicating to us, right now? Well if you believe the post-WW2 period has any relevance to today, we obviously do, then it is saying that we are not in a recession and are not overly close to entering a recession.  Anything can happen and this indicator could be wrong this cycle but based on the data the odds are low.

Happy Trading,

Dave@TheMacroTrader.com

http://TheMacroTrader.com

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P.S.-before you send me a chart of the labor force participation rate let me say a few things. 1-I have seen it, have charted it, studied it, etc. so I know its declining and am not really worried 2-I would invite you to not just look at it and listen to a pundit but actually download the data, read about the data, compare it to other data, study demographics, and then if you still think I just NEED to see it feel free to send it my way.

Trader, Economist, Expert On TV?

You have to decide what your goal is. Do you want to make money, sound smart, get on TV, etc? It sounds simple but the reality is that many investors get it very wrong. They think they are investing to make money but in reality they just try and impose their view on the market. Other people, a prominent gold bug comes to mind, just seem to want to be on TV. I am not even sure they are trying to make capital gains but instead just sell a product. Luckily I don’t think most investors fall into the TV camp….at least I hope not.

Where I see most investors go astray is when they fall into the sound smart/economist camp. Many investors do a lot of research for a view and then get so anchored into that view that they cant envision a different world.  This causes a lot of problems if you are ever wrong…..and everyone is wrong on a regular basis.

One recent case of the “this is what I believe and I am right” disease was peak oil. Everyone thought that we were going to run out of cheap oil and that it would stay above $100 forever. There were dozens of books talking about it, hundreds of websites, and thousands of research pieces written talking about how oil was going higher and never coming down. Here is a sample.

Twilight In The Desert

Twilight In The Desert

Of course as we all know now the only think that was peaking was the actual price of oil. The high price of oil spurred everyone to find new energy and new ways to extract oil. This brought us the surge in solar and wind capacity that is still going today, companies like Tesla, as well as a group of folks collectively referred to as “The Frackers”.  It was a long battle but five years post-financial crisis we finally saw the price of oil fall…and fall hard, going from $100/barrel to just under $40/barrel in about 18-Months.

Crude-20 year chart

Crude-20 year chart

If you held onto the view that oil was going to go higher forever no matter what, even once we started to see overwhelming evidence that fracking was very real and very repeatable, then you have likely lost a lot of money as both oil, natural gas, and all their related stocks have come crashing down.  It is not that the original research wasn’t accurate or that your initial view was bad, but instead that you stayed wedded to the notion that things don’t change and that you have to be right.

This happens time and time again. Think the Dotcom crash when the internet was not only going to change everything but that “the winners of the new world” were going to overtake everything and could never go down. (BTW Google that phrase and read the first result. Classic mania) Other recent examples would be gold or 3D printing stocks.

Ed Seykota has a great quote “Win or lose, everybody gets what they want out of the market” and while it has been beaten to death it is still worth pondering. If you are trying to make money you have to have “strong opinions, weakly held” and not “strong opinions, I can’t be wrong”.  This is why I like to think of myself as a trader economist. Every day, week, month, year I shop around for what makes the most sense given the current environment. What is the same, what is changing, and what looks like it might change are all better uses of your time than complaining that “they just don’t get it” because whether they get it or not if your positions are moving against you, pick your time frame, then you are wrong.

Most your ego from “I am right” to “I like to count my money” and your odds of success in this game will go up exponentially. If you want to be an expert or get on TV on the other hand than good luck with that.

Happy Trading,

Dave@TheMacroTrader.com

http://TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research

I Have Met The Enemy And It Is Me

A few weeks ago I picked up the book “Superforecasting” by Tetlock and Gardner. It was so good that after I read it I read it again.

In it the authors go over their experiments to find out first if there was such a thing as a superforecaster and second if there were (and there are) what makes them that way and if was teachable.  Lucky for us the results of the experiment, and it is ongoing, is that while some people are more suited to forecasting than others, it is teachable and almost anyone can improve their forecasting skills.

What I was most struck by was how much of forecasting is really knowing and battling the different mental biases we all have to greater or lesser degrees. Computational power, knowing math and probabilities and similar skills, matters and can help a lot but the majority of the book was really dealing with how to think and control your thinking and less on how to do Monte Carlo simulations (actually they just mention them as the book is not math heavy at all and can be read and used by almost anyone who can read).

I liked this because it fits in with something I have been working on for some time. Over the past few years I have been working on a list of biases that I have and a checklist to make sure I am addressing them every time I am looking at putting on a trade. While my questioning is more in depth and specific even just the exercise of asking yourself questions like “Recency bias: Am I over or under weighting recent data relative to older data? If so why?” can go a long ways towards at least lessening the impact, if not doing away with the bias completely.

You can ask yourself similar questions for any other bias or problem that you find yourself struggling with. Anchoring, sunk cost, disposition effect, outcome bias, bandwagoning, etc are but a small list of known biases that have been shown to greatly affect investment results. Go read “Superforecasting”, “Predictably Irrational”, “Nudge”, and anything else by Ariely, Kahneman, Thaler, Maubossin, and other researchers in behavioral science and you will learn how to spot a bias and often how to counteract it.

Of course I understand that none of this, at least to the extent that I am writing about it here, is truly new. Most readers of this site know about investing biases and how they can mess with our results. What I am trying to encourage you to do is to be systematic about it and actually make a checklist to combat any investment return killing bias that you suffer from.

In trading after we get past the CFA/CMT level knowledge base (both great programs but really just the beginning of this game and not the end), broadly speaking, there are only two real advantages in this game. You can have more and better computational/data power and/or you can become a better and more disciplined thinker. While we should strive to get better at both it has been my experience with me and all the investors/traders I interact with that we are our own worst enemies.

I could go on all day but will end with this: make a list of biases, figure out how they affect you, measure them going forward, and then tweak and improve as necessary.

Happy Trading,

Dave@TheMacroTrader.com

http://TheMacroTrader.com

P.S.-go buy the book “Superforecasting”, I only touched on how it pointed out many biases and how our thinking is usually our worst enemy but the book was packed with info on how to better forecast just about anything and think through problems. In addition it was entertaining and only a few hundred pages.

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Macro Is Dead, Long Live Macro

If you read the popular financial press you may be led to believe that because a few macro funds have closed down this year, a few legendary traders have closed their funds over the past few years, and because global macro as a category has done poorly post-crisis that macro is dead.  If we have learned anything post-DotCOM bubble it is that when a strategy has died it is really just coming back to life.

Let’s address the above reasons for macro’s supposed death. The first is that a few prominent funds have closed this year. Everest, COMAC, and Fortress have or are closing their doors. They all got hit hard when the Swiss National Bank blew their EUR/CHF peg earlier this year. Everest basically blew up, COMAC decided to turn into a family office, and Fortress kept fighting the fight in public until announcing a few weeks ago that it is closing up its macro business. Here is the thing though, of the three only one lost “all” their money. COMAC was down something like -8% and decided to turn into a family office while Fortress appears to have been down around -17% before shutting its doors.  Have you EVER heard of a long only equity guy closing up shop after a -8 or -17% drawdown? Have you ever heard anyone say that “the SP500 should be shut down because in the 2000’s it has been down over -50% not once but TWICE? It is kind of ridiculous to extrapolate that an entire category of trading is dead because a few guys were down a bit and decided that instead of dealing with the press they would rather just deal with their personal account.

This segways nicely into our next point regarding “a few legendary traders have closed their funds over the past few years.” To think that macro is dead because Soros and Druckenmiller both returned outside money is ridiculous. Forbes has Soros net worth at like $25 billion and Druckenmiller at $4.5 billion. Now I have no idea if their true net worth is half the Forbes number or double the Forbes number but either way they both have billions, have both been working for a long time, and both can still trade, or not trade, while enjoying whatever they feel like enjoying.  And for those that want to say “but Druck was down -5% when he shut down his fund” my response is you’re an idiot. He returned 30%+ forever, all his investors had net gains, and for all you know by the time the year was closed out he was up double digits. Again being down -5% is not really a big deal. In fact the SP500 was down double digits just a few weeks ago…..and I didn’t hear anyone saying “this is proof that market capitalization weighted indexes have lost their touch.” Oh and in case you are wondering by all accounts Druckenmiller made a bunch of money in 2014 and so far in 2015 so I am pretty sure his “loss of touch” was more his “I am sick of shuffling papers I just want to hang out with my family, trade my own money, and watch the Steeler’s play football.

Investing is different from most other professions in that if you are at the top of your game going private gives you a better chance of outperforming than if you are in the public eye. If you are an athlete, musician, artist, doctor, engineer, etc. you need to see people and do things with people in order to know if you are any good or not. Trading is different in that at the end of the day you can see your returns and you don’t have to care if anyone else does.

The last point, at least for today, is concerning the idea that because global macro has done less than awesome post-crisis it is useless and must be dead. Remember 1998, 99, and 2000? Julian Robertson closed his shop, Warren Buffett was down -51%, and value investing was dead. Yeah I wonder how that turned out. Remember around that same time how commodities had done nothing for what some might refer to as “forever”? Over the next 10 years both value and commodities did awesome. By the way what do both Julian and Warren B have in common? They are both called “value” investors but they have also both traded commodities, derivatives, currencies, and anything else that represented “value” to them. At the same time we have someone like Joel Greenblatt who has always been a stock/bond value guy and a Bill Miller who runs equity only mutual funds.  All of these guys would be lumped into the same value bucket and yet they all invest wildly different and have very different business structures.

Some funds, macro and otherwise, have investors who want very low volatility and decent returns. If you are a pension fund that “needs” 7% a year over time then a 20% year is great but a -10% year is the end of the world. The pension funds goals are steady and consistent returns but they have no need for shoot the lights out performance. Other investors on the other hand give a manager a portion of their money and they expect high returns and understand that usually that entails the potential for more risk. There are many other classes of investors but these two will do in order to make this point. Most hedge funds these days, macro or otherwise, are not playing to the sound of the SP500. They are not in the business of playing to some benchmark that someone from the media picked for them. Instead they are trying to play to the benchmark that they have set with their investors. Some of the investors have no economic incentive to beat the SP500 but instead to match their liabilities…..and this is why, or at least a huge part of why, “hedge funds have under-performed” post-crisis.

With all the different strategies and business models inside of strategy categories it is stupid to lump them all together. One of these days I will write a larger post on why the media gets hedge funds wrong but this is one of the key reasons.

All this is a long way of saying, and I am not sure how well I said it, that global macro is not dead and can’t really die. As long as their are trends, and there always are, there will always be some people on the right side and others on the wrong side of them.

By the way we have seen reports of a lot of managers being up double digits even while other funds are struggling. In the case of our newsletter, and of course I have to tout it, we are up around 14% for the year. We are directional macro looking to take 5-15 positions long and short across stocks, bonds, commodities, and currencies at any one time. If this type of thing sounds interesting to you then please take a trial of our service.

Happy Trading,

Dave@TheMacroTrader.com

http://TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research

The Only Thing I Am Certain Of Is That Certainty Kills

One of the worst things that traders can do is to think they know anything. The more certainty you have the less flexibility you will have in changing your mind.

Of course we do all that we can to skew the odds in our favor. We read, we model, we figure out how to structure the trade, and we look at how it would fit in our portfolio.  We do all this but in the end we have to be ready to cut and run because there is no 100% certainty in this business.

In fact the more certain you are that you are right the worse it can be for you. Want to lose 100% of your money? Go find a stock that you “know” will go up where you “know” that everyone else is wrong and then hold onto it no matter what.

What is fascinating is that it is widely believed that if you buy a few stocks and hold them you will make money the reality is that about 40% of stocks actually lose money over time while 64% of stocks under-perform the indices over time. The belief comes from the fact that the indices go up over time as they dump the losers and add to the winners. The main takeaway is that many stocks-40% of them-have negative lifetime returns.(for more on this search for the paper “capitalism distribution” it is full of interesting and useful data)

Trade certainty gets even harder when it comes to commodities and currencies as there is no reason why any of them “have to” go higher. Look at a 30+ year chart of any of the major currency pairs or commodities. They go up, they go down, and they go back up again. This cycle repeats over and over.

If you can’t be flexible in your thinking then the only thing you can be certain of is that you will eventually lose a lot of money.  If you look at any successful fund manager who has been at it for a long time you will see a lot of flexibility in their approach. Maybe the king of flexibility is Soros.

Go read Alchemy of Finance* and you will see that while he explains all these grand theories on what he thinks is going to happen in the market he is wrong almost every single time. Despite this he made over 120% during his “real time experiment”.

A typical entry in the book would read something like this “I thought the Fed would do this and then the German Bundesbank would do this so I bought Deutchemarks” of course the Deutsche mark would then start to tank and he would sell out, double his size, short the Deutsche mark, and make $200 million.

Despite his belief that such and such was going to happen he was not against changing his mind at all once he realized he was wrong.  He has almost no ego in his trading and in the end just wants to be on the right side of the market. The Soros/Druckenmiller track record is the best 30+ year record I know of so maybe there is something to this whole figure out a view, bet on the view, and then if it isn’t working dump the view approach. Read anything you can about Soros/Druckenmiller and you will find that their true edge was not in their research or political* views but in their ability to change their mind in an instant.

I have been thinking of this more than normal the past nine days as most of our positions, which had been working very well for most of the year, started to go against us. At first you assume its just some normal volatility but then it gets worse and you have to say “I guess I am wrong now” and move on. It is annoying when you have a theme going that you still think makes sense but in the end you have to decide what is more important to you-being right or making money? They are definitely NOT the same thing.

 

Happy Trading,

Dave@TheMacroTrader.com

http://TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research

*Alchemy of Finance-If you have not read this book change that now. Read it 2-3 or even more times and you will get more from it each time.

*Political views-As far as I can tell Soros and Druckenmiller are on different sides of the political spectrum. But guess what? It doesn’t matter. This is just further evidence that politics have almost nothing to do with making money….unless of course you are a politican.