Volatility is money

I have been warning for high volatility for quite some time and have said that when panic hits, it often comes sudden and fast without prior warning. Long time ago, I even wrote a blog "Fear of no fear", meaning when no one is fearful of any risk, you really should be fearful. I was laughed at by consistently talking about risks when the market was red hot and kept going up. But I hope the passing week of nearly 50% jump of the volatility with panicky selloffs has given the FOMOs a good dose of lesson why it is important to always be mindful of the potential risks out there. There is simply no such things as no risk bull market straight line up. Keep this in mind!!

I was asked what the coronavirus crisis will do to the market. First of all, I really hope this health crisis in China can be contained soon and more people's life can be saved. While natural disaster is not predictable and cannot be completely avoided, unfortunately this crisis has a lot man-made components involved. Virtually each earlier steps to effectively control the crisis were missed. God helps China and Chinese people!!

 

For this question, a short answer is a lot of impact and no impact at all! It really all depends on what the timeframe we are talking about. Let me explain.

In a short run, namely a few months probably, the market will be very volatile and swings a lot due to the presumed grave risk from the widespread coronavirus. Two major factors will propel the volatility:

• Lack of transparency of the true situation from China will potentially enhance the uncertainty and makes a lot of surprises along the way. This is what the market hates. So be prepared for such kind of swings.
• Exaggerated headlines scares will intensify the panicky reactions. No need to say the media is by nature to exaggerate situations for almost everything to scare people. That's how they can attract eyeballs and therefore make more money. 

However, in the long run, this kind of crisis will dissipate eventually and soon after, no one will remember it anymore. The market has a very short memory and becomes increasingly shorter. Think about SARS crisis about 15 years ago. The market declined about 10% or so initially but a few months later, it shot up more than what it had lost. Any persistent impact we have seen now from the SARS crisis. None!! Mark my words, this crisis will passes eventually without much trace for the market. Anyone telling you that this will likely be an end of world moment with persistent damage to the market is bluntly a liar. Don't believe a bit!! 

So the bottom line: Be careful about the short term volatility but take advantage the short term panic to trade for good TA setups and also add long term DRIP stocks when good stocks are on sales. This is what I'm doing these days. Actually I have shared with my Family multiple weekly income trades, all closed with 100% gains except one that I closed for 50% gain within the same day. This is the time to use volatility to your advantage if you know how to and safely make some quick money. For next week, barring major worsening of the situation over the weekend, I think the panic today has priced in a lot of the downside risk and I think we are very close, if not yet, to the very short term bottom. No, I don't mean the whole correction phase has been completed. Probably far from it. But in a few days or a week's time, maybe it's the time to buy not sell. In any case, I'm playing with safe bet for either way. When volatility is high, selling options either puts or calls is the best strategy for income trades. That's why volatility is money as long as you know how to do it!

"Whole year" gain was wiped out within 2 days!

Last weekend, I was asked how the market would be doing this week. Here was my response: "Volatile! It's the FOMC week. Typically down on Mon then up Tue/Wed. Then only God knows how the market will react to the FOMC announcement". Well, as we have seen, the market has exactly followed this script so far, 3% mini crash on Monday, followed by moonshot on Tue and further more this morning but gave up all the morning gain by closing after the FOMC.  

As I have warned for some time, the market is sending a lot of warning signs but there was no fear whatsoever till late last week. All the sudden, the "whole year" gain was wiped out within just two days. Ouch!!😵 I'm exaggerated a bit here. "Whole year" here mean all the gain for 2020 till now that was lost in 2 trading days😢. Pure luck, I shared with my Family about buying VXX and SDS just before the "crash" last week" and after the panicky selling on Monday, I said to sell the quick gains from VXX/SDS. Since the sudden tank of the market was so strong, the volatility shot up about 40% on Monday, a clear sign of panic and depression in the short term. Armed by the script with my expectation of a quick bounce on Tue/Wed, I was even naked short TVIX before Mon closing, an extreme risky contrarian bet. Of course, I'm not doing anything crazy but with clear rationale why comfortable to do so as I shared with my Family. Well, pure luck again for a quick 10% gain from shorting TVIX in two days and I covered it prior to the FOMC announcement this morning. Now the question is whether or not the correction is already done and all sky is clear. The Tue bounce was quite impressive indeed as it recovered all the Mon loss and then some. It is easy to think the worst has passed. Not so fast in my opinion. As I shared with my Family this morning, here is the 2018 VIX chart my friend shared with me. Back then around this time as well, the market suddenly declined with VIX jumping high, followed by an immediate easing of VIX thereafter (the green circle). Just at the time when people thought the worst was over, the Market God mounted another much more severe plunge with VIX moonshooting to over 30, an extremely panic (the red circle). In total, S&P lost 10% within 2 weeks. 

Does the market has to follow this path the exact same way this time? Certainly not necessarily. But as Mark Twain has said, history does not repeat but often rhymes. Given the TA condition right now is so eerily similar to that in Jan 2018, I think the chance is high to see something very similar to happen this time. So fasten your seat belt and be prepared for a heightened volatility in the days ahead!😠

      

  

Be prepared for a firework next week

While virtually everything is on fire and no fear whatsoever in general, the fire is especially strong on certain stocks, in particular the chip stocks. One of them that used to be dead money for years has suddenly become the Street darling. So much so that it has jumped 26 times in the past 4 years! Just for 2019, it had more than doubled while the overall market was "only" advanced by about 30%. Impressive...  and very much so indeed! Needless to say, the general mood for the stock is red hot and the expectation is super high for it! I have already seen people talking about another double soon for it from here around $50.

The million dollar question for traders is of course if this is possible. Sure anything is possible, especially if the company can significantly beat its super high earnings expectation, which is due next Tue, Jan 28. I definitely don't have a crystal ball as anyone else out there and cannot predict whether or not it can beat in an unexpected fashion. Having said that, I have a habit to check its past history to see if there is something I can learn from. And there is indeed something very interesting about the stock I'm talking about AMD.

I don't know how many people have realized (probably not many) that AMD has jumped in an euphoric fashion twice in the past 25 years to the same degree......There are only two other times in recent history that the stock made parabolic moves like this - 1996 to 2000 (846%) and 2002 to 2006 (1,277%) ... As you can see from the chart, the previous two moonshots did not end up well. Actually both were disastrous, back down to the earth again after the euphoria dissipated after their peaks. Let me just present some facts based on the AMD long term chart below and you can make up your own mind what may be coming next.

·       This is a long term monthly chart. As such, it takes more time to play out, usually in 6 months or more.

·       Technically, the current TA setup is quite similar to the previous two parabolic moves. See the bottom two cycles on the RSI indicator. In both times before, AMD peaked when RSI was deeply in the overbought extreme on the monthly chart. Does that mean AMD is peaking as well this time? No one knows for sure of course but as the old saying goes, history may not repeat but often rhymes!

·       If AMD indeed backs down from its highs now, it could be a brutal downtrend lasting for months with a potential to give up all the gains from the past few years. Certainly it won't be a straight line down but will be a lot of volatility along with it.

·       One bright spot for this time is that AMD seems breaking out from its old high back in 2000. The question is if it can maintain and moves further highs from here. If so, it will be very bullish. Having said that, technically even if AMD declines 15% from the current level, one can still argue that it is still a "normal" correction and its bullish trend may still be intact as long as it can stay above the earlier downtrend line around $43ish.

Regardless what you think, it will be an interesting case to watch for AMD in the weeks and months ahead. Depending on the setup, I may share some trading ideas with my Family before and/or after its earnings. Actually yesterday I already shared one trading idea that can be profitable within a wide range regardless how AMD is responding to its earnings. Cannot wait to see the firework next week!!😎

By the way, as I said, I traded TVIX recently and FYI here is the screenshot of my blog for my Family about my trade with TVIX about 10 days ago. 

Big money is leaving

First of all, Happy Rat Year!!

If you are travelling back to China, wish you a good luck! It is dangerous there but hopefully the coronavirus crisis can be contained soon.

Just a short note that per my source of information, the big money in the Street is silently retreating from the market at the moment. While it does not necessarily mean an immediate crash, it does indicate that the froth in the market is not little and the expectation for a further push up is limited for the near future. So the big guys don't want to leave too many chips on the table with too much risk involved. Be prepared for the heightening volatility in the weeks ahead if you still want to try your luck to squeeze the last drop of milk! Today's selloff may likely just be a tiny taste of what is coming next. No I certainly don't expect a sudden one time crash and very likely we'll see eager buyers next week for the dips but I just cannot be bullish at the moment for the market. I'm trading TVIX these days and sold for 6% gain today in about two weeks. Likely I will be doing much more such trades for volatility in the next few weeks!😋

In the same token, see an interesting report by Bloomberg calling for a potential disastrous ending for retail investors when this bull run finishes. Hope you will not be be one of them. 😗

Amateur investors are making risky bets that could wipe them out - Bloomberg. After years of falling debt yields and new technologies enabling one-click purchases of complex financial products, mom and pop investors around the world are making bets that put them at danger of getting burned.
 

 

Conflicting view to be bearish for gold and the stock market at the same time?

Following my blog yesterday, I got a good question from a few friends asking if it is a conflict of view to talk down about gold and the stock market at the same time. Since there are a few aspects to explain, it's worth another blog to share my thoughts.

First of all, it is a general view that gold is a safe haven asset and as such it should go up when the market goes down. It is logical and reasonable to think so. But let's use the chart to analyze whether this is true. See the 5-year chart below to see the correlation between the stock market (SPY in red) vs gold (GLD in blue) from 2015 to 2019. Do you see a clear and strong inverse correlation, i.e. one must goes down when the other goes up? I don't see that. 

As a matter of fact, gold has been largely in a side way move while the market has been red hot in an uptrend. By the way, while the market is clearly outperforming gold in a wide margin in the past 5 years, in the past 15 years from early 2000s, gold has greatly outperformed S&P actually by a factor of about 200% points. Moving forward, gold will continue to do much better than the stock market in the long run I believe. This will be another topic in the future. 

Now, if you look more carefully about the chart, you may notice that in 2015, both good and stocks were in a downtrend and in 2017, both were going up together. So clearly gold and the stock market can go in the same direction from time to time and it is not true to expect that gold must go up when stocks are going down. Having said that, gold as a safe haven asset, it does have some risk aversion effect but usually only in a very short time period. More specifically, when there is a widespread sudden panic in the market, typically we may see a fast jump of the gold price. But this kind of effect tends to be short lived and then gold will go where it needs to go regardless of the market, as gold has its own mind and life for sure.

Back to the question for my last blog about the red hot market sentiment which may likely lead to a sharp market correction vs record high of bearish sentiment by the smart money on gold, suggesting a downward trend for gold in the near future. As a matter of fact, the timeframe for the two is quite different actually. For the market correction, if indeed triggered, it will likely be in the next few weeks probably within a month time. But for the gold weak trend, it may take a few months to materialize as the smart money bet is not a good time indicator but rather a general directional bet. In other words, we may still see a temporary strengthening of gold if a sudden panic hits the market. But even if that happens, the smart money bets that the stronger gold is likely not sustainable in the near future and it will come down again first before going much higher again. 

The never wrong guys still betting for the downside

I'm travelling this weekend. So just a quick blog for this week.

First of all, let me just show you the sentiment index for end of 2019 vs the current status (the blue line was added by me to indicate where was the index a year ago, 28!). 

I guess you don't need me to decipher what's the difference, right? The herd mood has drastically changed from the extreme depression (almost on the verge of suicide😵) to the extreme euphoria at the moment😇. As I have said before, we human beings, since our birth in this earth, have drastically and dramatically changed in virtually all aspects of our life except one thing: the mood cycle and herd behavior. There is no difference for thousands of years that our mood in one extreme will always be followed by another extreme in the other end; and the herd is always feeling comfortable to go with the majority chasing around.  Don't fool yourself into believing that this time is different. Not at all. So after the mood is just at a spit distance to 100 in excitement that cannot go up anymore, you should be prepared for a shift to the other end....probably soon! I'm 100% sure that at some point in the foreseeable future, I will be telling you: Don't be too depressed!!

Then something related to the mood as well in the precious metal sector. Last August, I was saying that the precious metals would go down for a correction as the never wrong guys, the commercial traders (see here), had bet heavily for the short side. Sure enough, gold had dropped from $1550ish to as low as $1465ish. Now, due to the "faked" alarming situation in Iran after the removal of the Iran's top general by the US force, gold jumped to as high as $1595 following the incident as the major media has been universally telling us that a World War III is near in the sight. Sure if a major war breaks out anywhere in the world, gold will be one of the only few that will be chased up. It is natural that people pump their money into gold in hurry for protection as the future traders (the dumb money) have bet in record for the upside of gold. So what the smart money (the Commercial traders) is doing with their money? Well, believe or not, they are still adding more short bets for gold (nearly historically high volume), meaning they believe gold will go down more than up in the next few months. In the past 10 years, we have seen two times in a similar extreme situation for gold and each time a sharp correction in gold followed in the scale of 15-20% to the downside. Will this time be different? Sure anything is possible but my money is definitely on the side of the never wrong guys.  😋😎      

Is it now a good time to buy Buffett?

As a living investing legend, Buffett is miraculous and impactful. I heard a lot of people lost money this week following the tragedy of the Ukraine jet crash in Iran simply because there was a surge of buying airline stocks just prior to the accident as there was rumor circulating around that Buffett was buying airline stocks. Then no news came out to confirm that but the plane crash knocked down airline stocks as a whole. While such kind of brainless FOMO should be punished for their blind gambling, it is indeed a reflection of how powerful Buffett is. I must say I missed a great opportunity to make some serious money by simply allowing Buffett to manage my money. As you know, in our generation, we knew nothing about investment during our early adulthood when we grew up in China. While I started to "invest" (blindly) in mid 1990s, I hadn't heard Buffett at all back then when I was in Europe. Then in late 90s when we moved to Canada, that was the first time I heard Buffett by accident. I recalled I saw a free investment newsletter one day that had one article written by a financial planner. He was basically telling a story that a friend of his from Hong Kong bought an expensive Omega watch worth about $50K. And he said he would never buy such luxury stuff (which I agree wholeheartedly) but rather to buy a share of Buffett's stock (BRK). That was the first time I heard about Buffett and I was shocked how expensive the stock was, around $50K! Naturally I did not buy BRK as I thought this guy was crazy to suggest to buy such an expensive stock!! Stupid me of course!!!😠 Now BRK is trading $340K per share, nearly 7 times the price back then or roughly 35% annual increase in the past 20 years or so by simply buying and holding it!!!! I wish I had the wisdom back then but I didn't unfortunately. Back then I was similarly like most others to do FOMO....and lost a lot of money during the dot.com era.😢

The interesting question now is whether it is still a good time to buy Buffett?! I have a mixed feeling about this. On one hand, you probably will hardly lose much money by just buying and holding BRK (A or B shares). Valuation wise, BRK is nowhere near the expensiveness of the general stocks, or S&P as a whole. There is a good sign that value stocks which include BRK are in generally entering into a good era after lagging behind growth stocks for years. This is especially true if the decade long bull market comes to the end (it will for sure) and if we are entering into a general bear market (and it will also for sure😖). It will be much better to hold value stocks during a bear market in general, especially in a prolonged bear. Having said that, I'm not sure I will put my money into BRK any time soon for a couple of reasons:

·         Buffett's most glory time has probably passed. If you are not aware of, BRK has underperformed the market consistently in the past 15 years straight. In other words, if you simply buy S&P for the past 15 years, you would have made a lot more than holding BRK. I don't think this will change in the future. One of the major reasons that Buffett cannot beat S&P anymore is that he has changed his investing style. Somehow he has deviated from his long term success of investing in capital efficient companies (higher return with less capital) but has become more into those capital inefficient companies. Actually Buffett has talked about this back in 2007 in his annual letter.....sometimes businesses look good in terms of revenue growth, but require large capital investments all along the way to enable this growth. He lost a lot of money in such cases like in COP, airline stocks, IBM, and more recently and still ongoing struggling with Kraft. Interestingly, at last year's annual meeting, Buffett was kind of stumbled by a question from an 8 year old girl 🙋questioning him exactly about this (see here).😸

·         The world has changed fast and rigorously. The technical innovations on a daily basis have not only fundamentally changed our life style, they have also created a lot of very innovative companies that are largely capital efficient. But Buffett cannot adapted effectively anymore and he has notoriously been shy from high tech companies. Apparently it is difficult for him to catch up and stay with the technical advances probably due to his very advanced age now. I cannot see any meaningful changes from Buffett moving forward, even though he knows very well his limitations.

·         As we all know, BRK has never paid dividends to shareholders. This was great in the past when Buffett could beat the market by a large margin and grow the stock value as reflected by the share price. Effectively, the shareholders were just letting Buffett manage their money instead of receiving the profit (via dividends) and managing by themselves. But now with BRK badly lagging behind the market, lack of dividends is becoming a big no pass for investors in my opinion. I'd rather put my money in quality dividend stocks and let them compound over time.  In this sense, just buying S&P with dividend reinvestment will be much better than holding BRK without dividend at all.

·         Lastly, not a curse but a reality check every investor has to face: Buffett is nearly 90 years now. Even though I wish Buffett can live healthily forever, the human nature will show its power sooner or later. Right now BRK is basically Buffett and people continue to have full faith in Buffett. What will happen if god forbidden Buffett leaves the world some day, especially suddenly? This is not if but just when! I think there will be a huge shock for investors and BRK will suffer a great deal when this happens. To me this is just like a time bomb without a specific timeline but for sure it can explode any time.

In a nutshell, I will stay away from BRK right now, unless there is a huge correction that we can buy BRK much cheaper than the current level. There are simply too many low risk opportunities out there for investors that there is no sense to tie up your capital for a lagging behind stock, even though it is not a bad one at all. It is just not an efficient wealth grower anymore as it used to be. Sorry Buffett, although I'm still your unfaded admirer for your wisdom!!😘    

Can history repeat itself?

The market is in an unbelievable resilient status! I can only say I'm impressed extremely. Any weakness is facing eager buyers. Clearly there is no fear whatsoever as if the market will simply continue to go up. Scared for what? I know talking about caution in this kind of extreme bullish sentiment will only be laughed at. Fortunately I'm not writing this blog in order to please anyone and I can just post my honest view regarding what I'm seeing. And what I'm seeing is not pretty at all. Let's look at the following chart first.

Can you tell me what you can see from it? Well, you don't need to be a PhD to tell the similarities between the current market vs Jan 2018, right, especially with my highlights? It is eerily similar or may be even called virtually identical in terms of timing, the distance from its 50 DMA, the overbought status as reflected in RSI, and another important indicator that is not shown on the chart: the Call/Put ratio. As you can guess, when the market is super bullish with euphoria widespread, people love to buy calls much more than puts. So the C/P ratio tends to decline and now it is less than 0.7. C/P is a good reliable short term contrary indicator. When it drops below 0.8, it is extremely overbought and tends to snap back, which means a decline of the overall market. So what was the C/P ratio back in Jan 2018? Also around this level!! As Mark Twain has said, "History doesn't repeat itself, but it does rhyme." Can the Jan 2018 sharp correction repeat itself this time? I don't know for sure but I bet it will at least in some format!! Of course, by no means I'm telling you when this will happen as no one can know for sure the exact timing. What I'm trying to voice here is that this is a very risky time period and you better fasten your seat belt and be prepared for a bumpy road ahead. 

By the way, while I'm constantly put out my cautious view out there, it dose not mean I'm only bearish on anything. Not at all! Actually I shared with my Family today to close a put selling position for CASY to take a 45% profit within 7 weeks (or annualized 330%). A month ago I noticed CASY was sold off hard but it is a good company with solid fundamentals and should be due for a rebound. So we sold its $155 puts then to bet it would go up in the next few weeks. Fortunately it did and today, it is trading at $168. In my mind, this is a much better and low risk way to trade in an euphoric market instead of chasing with FOMO. We have a lot more such kind of income trades waiting for harvesting in due time. 

Quote for day:

"Investors should purchase stock like they purchase groceries - not like they purchase perfume." - Benjamin Graham  

The simplest money making strategy

We just finished an amazing 2019 with a big win for the stock market. It turns out my one year prediction by the last year end for a 20% increase for S&P in 2019 was too conservative, although it was the boldest prediction one dared to make at the darkest hour back then. So now what is for 2020? It is more difficult to predict for the year of the presidential election due to a lot of uncertainties involved. But let me still try. Here is what I'm thinking:

• The market will be more volatile for this year. Given the very euphoric sentiment built up in the past couple of months, I think the risk for a good dose of correction is in the card. This may come during the first quarter. Today's selloff is just a warm up. More to come!
• If we indeed see a sizable correction to wipe off some froth, then we should be on the way for a good run again, potentially a Melt-Up phase finally being triggered for the 11 year long bull market. I will give a 10-20% upside move based on the closing price (3231) for S&P by Dec 31, 2019. Of course, it will be much higher if we calculate it based on the lowest point if a correction is materialized.
• However, the Melt-Up will only come if Trump gets re-elected! This is a must for this bull market to continue for a while. If a DEM gets elected, a market crash is nearly a certainty as the market will be in panic to price in a rollback of all the pro-market/pro-business policies instituted by the Trump administration. 

Put aside the prediction that is just for fun, let me show you a simple strategy with a proven track record based on half a century of real life testing. It is called 

the "Dogs of the Dow" (DOTD), an investment strategy that has been around since 1972. And it's really simple, too. All you have to do is find the 10 stocks in the Dow Jones Industrial Average with the highest dividend yield on the last trading day of the year. And then, you invest equal dollar amounts into each of them and hold them for the entire year. You may find more information about this strategy here.  In the past nearly 50 years,  the DOTD outperformed the Dow itself by 3% in average. And with dividends factored in, it averaged a return of 14.3% for those who used the strategy. The rationale is straightforward: you earn highest dividend income which will boost the overall return to start with. Then these big dogs are stable blue chips that will enjoy a good upside movement along with a good market, but even if in a bad market, they tend to fare better with less volatility, given their size and more resilient businesses. There is modified DOTD, called the "Dobermans of the Dow".It uses the following two criteria to identify the top 10 stocks from the Dow:

Step 1: Rank Dow constituents by Return on Equity (ROE), keeping the top 20.
Step 2: Rank remaining names by Free Cash Flow Yield, keeping the top 10.

I think it makes more sense by incorporating the ROE weight. Here is the result for 2019: The Dobermans generated a total return of 29.6% compared to 25.3% for the Dow. It appears based on the backtesting,  the Dobermans have outperformed the DJIA in 18 of the last 22 years, averaging a 14.4% annual return. The cumulative return of this simple, 10-stock portfolio is +1,227% versus +502% for the Dow.

If you like this idea, see below the list of the top 10 stocks for Dobermans DOTD:

My myself, I'm not happy with this average performance. And I have a better idea with much less risk to try to boost the performance potentially for a double or more. This is something I'm going to share with my DW Family as one of the ideas for 2020.