While extremely bullish sentiment does not always call tops it has never, at least to our knowledge, ever called a bottom either.  Looking at the chart below of the Investors Intelligence Bull Bear Ratio along with its 13-week (3-month) moving average you can see that not only has sentiment risen as fast as the market but it is at highs not seen since 2004.  While this is not necessarily a sign of a market crash like some would lead you to believe we do think that the current situation warrants caution.  We are currently not selling off our long positions but we are holding off from most long opportunities right now.   (Click on chart twice to enlarge)

Investors Intelligence Bull Bear Ratio

Happy Trading,

Dave@TheMacroTrader.com

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Over the past year one of the biggest themes has been to short the US Dollar and go long anything that is considered risky.  If you bought stocks, any grade of corporate bond, commodities, even real estate stocks and you would have made money.  Many strategists, The Macro Trader included, used the falling US Dollar as a reason to go long stocks, bonds, commodities, etc.  The reason of course is that since the March bottom the USD and the SP500 have been almost perfectly inversely correlated.  Well that relationship appears to be breaking down right now as the US Dollar has been rallying and other risk assets have not been falling in sympathy.

In the chart below you can see how as the US Dollar has fallen, the SP500 has risen.  In fact when there is a wiggle in the USD there is an opposite move in the SP500.  As you can see in the bottom right hand corner the USD is rallying while in the top right hand corner the SP500 is still looking strong. (Click on chart twice to enlarge)

US Dollar vs SP500

Of course if this inverse correlation is falling apart the correlation between the SP500 and the Euro is also falling.  Apparently, at least for now, you are able to be short the EUR/USD and still be long stocks and make money.  Looking at the chart below you can see almost the exact opposite of what we see with the US Dollar.  As the SP500 has moved higher the Euro has climbed as well until the last few weeks as the Euro has tumbled and equity markets as well as other risk assets have managed to remain strong and in many cases hit new highs. (Click on chart twice to enlarge)

Euro vs SP500

What do we take from this?  One thing is that the carry trade using the US Dollar was not as heavy as many people feared.  Another thing is that the market is always changing and that many intermarket relationships work well in some periods and fall apart in others.  As always it is important that we have solid risk management principles and that we are open to change.  For now we are short the EUR/USD and long equities…but that could change tomorrow.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is long several equity index ETFs such as IWF, EWZ, and MOO and we are short the FXE-Euro ETF.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: US Dollar Correlations Breaking Down
URL: http://www.themacrotrader.com/2009/12/16/us-dollar-correlations-breaking-down/

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Yesterday we wrote about how we feel that the Euro is headed lower due to overvaluation, the technical picture, and market positioning.  In light of that we thought that we would show the technical picture of the US Dollar index.

In the chart below you can see a chart of the US Dollar index all the way back to 1971.  In the lower panel we have plotted the distance from the 200-day sma shown as a percentage.  Not surprisingly the index rarely strays more than 10% away from the 200-day.  In fact since 1971 it has only gone above or below by 10% 11 times.  Since 1992 it has only breached the 10% level once back in 2008 in the midst of the financial crisis. Right now we are close to the lower levels of a typical move.  Could it go lower?  Of course the answer is that yes it can, but if history is any guide we doubt that we have much lower to go before a decent sized bounce. (Click on chart twice to enlarge)

US Dollar Index

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-In The Macro Trader newsletter we are currently short the EUR/USD

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Is It Time To Buy The US Dollar?
URL: http://www.themacrotrader.com/2009/12/10/time-for-us-dollar/

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We have been bearish on the EUR/USD for some time now.  Some investors are convinced that the USD is going down forever and that the US is the next Zimbabwe.  The reality is that while the United States has a ton of issues such as the huge and rapidly expanding deficit, the rest of the world is not exactly in great shape either.

One of the weaker areas of the world happens to be the European Union.  They continue to have issues such as Spain and its almost 25% unemployment rate, the IMF estimate that EU banks have only written off 50% of their bad debt, and the potential for major defaults in Eastern European nations.

The timing for a short position is starting to look right.  As you can see in the chart below on a purchasing power parity basis the Euro is 35% overvalued to the USD.  In previous periods of over and undervaluation this is past the levels that are typically seen before a reversal of trend. (Click on chart twice to enlarge)

EUR/USD PPP

Another indicator that we follow is that of FX risk reversals.  Risk reversals essentially show how option traders are positioned.  A negative reading means that option traders expect a move lower and positive reading mean that they expect a move higher.

Typically we look for contrarian signals at the extremes, usually when the reading is very negative or positive the trade is crowded and the price goes in the opposite direction.  This time however is a bit different as option traders are extremely bearish but the spot price has remained strong.  Because of this we suspect that if the price breaks we could see a swift move lower.(Click on chart twice to enlarge)

EUR/USD 25R 3M Risk Reversal

Looking at the chart below of the Euro ETF you can see that the price has broken below its current trend line.  In the lower panel you can also see that we also have had a momentum divergence during the last part of the advance.(Click on chart twice to enlarge)

FXE-Euro ETF

All of these signs point to a lower Euro.  We think that the timing is right to dip our toes in the water.  If the trade starts to move in our favor we will be looking to add to it as it could move quite a bit lower due to how overcrowded the trade is, valuations, and the fact that the EU in our view is just as broken as the US.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-we are currently short the Euro in The Macro Trader newsletter.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Is it Finally Time To Short The Euro?
URL: http://www.themacrotrader.com/2009/12/09/shorting-the-euro/

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We have heard about the so called economic recovery for months now and while it is true that markets are higher we have our doubts that any of this optimism is seeping into the real economy.  Because of this we tend to believe that we are headed for a double dip recession, assuming that we ever got out of the first one.

Lately we have started to see renewed signs of a downturn in some of the economic indicators that we follow.  All things employment have been bad with the unemployment rate, exhaustion rate, and unemployment 27 weeks or longer rates up.  Anyone that is seeing an upturn in employment must be on an acid trip as there are no signs of anything but more unemployment.  Just Wednesday we had housing starts come in lower than expected.  One indicator that we follow is the Citi Economic Surprise Index.  They have them for all of the G-10 nations and it does a good job of showing if economic numbers are doing better or worse than expected.  As you can see in the chart below the index is turning over in both the United States as well as the G-10 indexes. (Click on chart twice to enlarge)

Citi Economic Surprise Index

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is actually long various indexes but since he’s negative on the economy is looking to lighten up on the first signs of weakness.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Is The Recovery Slowing Down?
URL: http://www.themacrotrader.com/2009/11/19/slowing-economic-recovery/

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We keep hearing that long term Treasury Bonds are going to tank and that we need to get short before they fall off a cliff.  While this may very well happen, we doubt that it occurs anytime soon.  We are not alone in this view as Bill Gross and the gang at PIMCO seem to agree.  While some argue with his view of a new slow growth period the market does not seem to have an issue with it.  Not only has Helicopter Ben said that the Fed is not raising rates anytime soon, but market indicators are saying the same thing.

One Treasury indicator that we use is the MOVE index which is a  “yield curve weighted index of the normalized implied volatility on 1-month Treasury options. It is the weighted average of volatilities on the CT2, CT5, CT10, and CT30.”  As you can see in the chart below it has been falling since July as the market has come to the realization that we are in for a slow growth period and that the Fed is not going to raise rates any time soon.

MOVE Index

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is currently long AGG

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Interest Rates and the MOVE Index
URL: http://www.themacrotrader.com/2009/11/18/interest-rates-move-index/

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One of our major themes here at The Macro Trader over the past two years has been to short Europe.  We mean that in a general sense as we have been short Spain and Italy off and on for over a year and are bearish on most things EU relative to most of the world.  One area that we have been looking at a lot lately is that of the Euro.

After being overvalued by 40% back in March of 2008 the Euro fell about 20% as investors went into risk aversion mode and bought the US Dollar.  Since March of this year the Euro has once again climbed into wildly overvalued territory again and is currently about 35% overvalued. As you can see in the chart below when the Euro gets very far above or below the 20% bands it has a relatively sharp tendency to revert to the mean. (Click on chart twice to enlarge)

EUR/USD PPP Chart

Our view is that sometime in the next few months we will have a modest US Dollar rally as investors leave the Euro.  In fact this is one of the primary reasons why we think that gold has been working out so well.  Basically the EUR, USD, and JPY are all really weak and investors are doing anything possible to diversify out of them.

One tool that we use a lot to gauge our timing in regards to trading currencies via PPP valuations is that of the different volatility indexes.  While you can monitor the EVZ Euro VIX, we also look at the JP Morgan G-7 VIX so to help us gauge the risk aversion in other G-7 currencies as well.  Right now this is important as there are several currencies overvalued by 20% or more, but that is for another post.  Anyways as you can see in the chart below the JP Morgan G-7 VIX is at relatively low levels and is showing little sign that anything is happening yet.  (Click on chart twice to enlarge)

JP Morgan G-7 VIX

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is currently not short the EUR/USD  but that will change at some point.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: The Euro Is Overvalued
URL: http://www.themacrotrader.com/2009/11/13/euro-is-overvalued/

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One of the largest problems that seems to be getting little attention is that of the pension fund crisis.  While it has yet to hit in earnest it is definitely upon us.  The basic problem is that due to poor returns, both nominal and adjusted for inflation, pension funds are extremely underfunded.  While everyone in the investment world seems to know about the problem it does not seem as though anyone is talking about it.  So here are some charts that show the problem with the standard pension fund.

In the chart below we are looking at someone who started at the beginning of 1995 investing $1,000 a month, in a 70/30 stock bond mix, rebalanced monthly.  We are using real returns on the SP500 and on the Dow Jones Corporate Bond Index as our investment proxies.  Also in the chart is the same $1,000 a month invested solely in T-Bills.  As you can see T-Bills are actually slightly ahead and have had very little volatility and is at $184,120.  The 70/30 mix on the other hand has had a rocky path and is at $181,173.20.  Essentially the typical 70/30 stock bond mix in real terms has returned virtually nothing.  You could have saved the same $1,000 a month and put it in T-Bills and you would be ahead after nearly 15 years. (Click on chart twice to enlarge)

70/30 Stock Bond Real Return $1,000/Month Rebalanced Monthly

We could write about this topic for days and will in fact cover it more in future posts but the problem is obvious.  Pension funds are underfunded and there is no way in hell that without a major bailout from the government that they will be able to meet their liabilities.  So add this to the mix of current spending habits, unfunded liabilities of medicaid and social security, and the other retiree problem.

What is the “other” retiree problem?  The primary issue is that if you have a 401K, IRA, or other non-pension fund retirement plan you are likely under water.  Up until this year when investors, along with the Fed, have been flocking into bonds, most investors have been primarily invested in stocks.  How has that done?  Well in nominal terms it has been less than great.  If you were invested in an index fund over the last 10 years you would still be under water.  In real terms things get even worse.

In the two charts below you can see the SP500 from 1950 to now adjusted for inflation as well as the % drawdown.  As you can see we are still very much under water.  In fact as of the end of October the indexer is down -45.51% from the highs reached back in August of 2000. (Click chart twice to enlarge)

SP500 Real Returns and % DrawDown

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-We wish there was a way to short Pension Funds.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Real Returns, The Pension Fund Crisis, and Buy and Hold
URL: http://www.themacrotrader.com/2009/11/12/real-returns-and-the-pension-fund-crisis/

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There is some interesting news out of China that they may in fact re-export some of their copper stockpiles.  Here is the link to the Bloomberg story “China May Re-Export Copper on Stockpiles.”   While not a rally killer by itself this is pretty damning evidence that a major part of the rally in commodities came from Chinese stimulus buying.  This was more bargain buying than an actual demand driven rally.  This could lead to a good sized move down as demand has not picked up inline with supply and now China is not only done buying but may even start to sell.

As you an see in the chart below copper has been in a steady uptrend since the end of 2008 and the move preceded the rally in other risk assets that started in March 2009.  The trend has been very consistent and is up about 130% in that time. On the chart below you can also see that as China has presumably stopped their buying we have seen a momentum divergence as the copper rally has slowed down.  (click on chart twice to enlarge)

Copper

We would be wary of any move higher in copper and are currently looking at some possible shorts in the copper related ETF/ETN products JJC-Copper ETN and DBB-Base Metals ETF on a break of the trend line.  If China which appeared to be the only buyer earlier this year, and is such a huge part of the emerging growth story, has too much then who is left to buy?

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-We are not currently long or short any industrial metals but that could change at any time.

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Did China Buy Too Much Copper
URL: http://www.themacrotrader.com/2009/11/10/china-copper-commodities/

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Since the start of our newsletter we have been using a relative strength table that looked at Fidelity Select Sector Funds to show what industry groups are leading and which groups are lagging.  The relative strength calculation is similar to the style used by Bill Oneil and IBD but is slightly shorter term in nature. We used the Fido Funds due the their price history and breadth of different groups.  Now that there are not only enough different industry group ETF’s, but also the needed price history we have revamped the model to use ETF’s instead.

We publish one list for United States industry groups and one that is focused on global ETF’s with several country and a few sector specific ETF’s.  These tables are valuable in a few ways.  One is that we have developed a trading model based upon them that uses the rankings along with buy, sell, and money management rules.  Over time this model has beaten the market with far less risk.  The other way that these tables are useful is that they show you what is strong and what is weak.

While this concept is not rocket science we are consistently surprised how little attention it is given by other traders.  By using relative strength we can see what is really working and where investors are going.  Many times the supposed “hot sector” is not really that hot.  By looking at the tables we can see what is really working and what is not.  For instance looking at the Global RS Ranking table below you can see the leaders and the laggards.  While it is no surprise that Brazil is at the top when was the last time you saw someone on CNBC telling you to buy Indonesia or Turkey?  Yeah we missed that segment as well. (click on table twice to enlarge)

Global RS Rankings

Right now this table is confirming to us that for the most part developed nations are weak and should be sold and that emerging markets are strong and should be bought.  No, this is not the first or the only tool that told us this same thing but it is one way in which we can systematically be long the best areas of the world and short the worst areas of the world.  It also gives us a road map of where investors are putting their money and where they are withdrawing it.

Another point worth noting is that while we are starting to run this as a “standalone system,” the system represents only a part of our portfolio.  In our trading and our newsletter model portfolio we use several different methods in order to build a less correlated portfolio trading across asset classes.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-We are long EWZ-Brazil, EWT-Taiwan, and EWM-Malaysia

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Macro Trading Using Relative Stength
URL: http://www.themacrotrader.com/2009/11/10/macro-trading-relative-strength/

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