01 May 2015

Dangerous Markets: Here Are Some Levels and Triggers to Watch

We typically do not get major market corrections in May. They tend to cluster in the Spring and the Fall.  By major correction I mean 15+%.
For example, in 1929 there was a 'market break' in March, and then the exchange shook it off and went on to have a bumpy summer of ups and downs with a final climb to a top in October.
Every market decline has its own specific course of events, but they do tend to have some things in common.  There is generally a build up of conditions that make it the right kind of market, and then some trigger event occurs to set things in motion.   It is much like what occurs in the build up to an avalanche, or a wildfire.
So we are talking about 'avalanche conditions.'  
That does seem to be a little counter-intuitive, because we seem to have markets that are almost sleep walking within ranges with short term algo-driven volatility.  These are very 'cynical markets.'  The masters of the universe believe that they are firmly in control.
Looking at the composition of this market and the economies, I see bubbles both in the US and especially in China, in bonds and in stocks.   

I see a paucity of liquidity of the right sorts, of determined investment money of the durable sort, and economies that are narrowing, with most of the discretionary money shoved well into the top tier of consumers and investors.

And the money is hot, compliments of the Fed, and the focus is for the most part short term.  I think my opinion of the Fed is well known by now to any regular readers, and the ECB is no better. 

So in surveying this mountain with its potentially dangerous conditions, one looks for potential trigger events.

Greece looms large. Despite the pooh-poohing and brinksmanship by both sides, a Greek failure could prove to be the underanticipated Lehman event that would set the cascade of dominos falling.

And then there are the many confrontational hotspots around the world, in the Mideast of course, in the South China Sea, and in the Ukraine among others.

What makes this particularly dangerous is the cavalier attitude of the neo-con chicken hawks towards military action, especially in some of the English speaking countries.

Two articles this morning brought this thinking into focus.  But I have been having this conversation off and on with some trading friends for the past few weeks, and I also noted in the beginning of the year some signs of trouble.  What 2000, 2008, and 2015 May Have In Common
The first, Shrinking Liquidity Exposes Markets to Crunch, sounds like a prelude to 'no one could have seen this coming.'

And the second from my friend Adam Taggart, For Heaven's Sake Hedge,  shows some of the other aspects that make markets dangerous.
I have not yet seen the classic 'crash patterns' on the charts that I have documented extensively over the years, but as I am saying, and I hope I am clear about this, I see dangerous market conditions that, given the right kind of trigger event, could unleash quite a bit of mispriced risk and concealed fragility.
I don't get into sentiment or contrarian indicators all that often, because from my experience they can be very much in the eye of the beholder.  But the tenor of the discussion on financial TV is especially disconnected from reality now, with a clueless bravado that is characteristic of a coming conflagration.
The discussion of the TPP this morning on Bloomberg and of gold on CNBC in particular were striking.
I am taking a defensive posture, not because I think we are going to crash the markets, since only mugs make those calls and bet on them with their own money.  Rather, I think we are seeing dangerous markets, with the danger exacerbated by the willful arrogance of the market masters and their money men.
I extend this watch to October, and will keep looking for changes.  I do not expect much to come of this.  This is just a caution, but given a trigger event of sufficient magnitude, this could become a problematic market even during the dog days of Summer.  Our leadership and financial management is just that bad, reckless and irresponsible.
One thing I learned, most painfully, is that the Fed can and will keep an obvious asset bubble going much longer than one might expect, given the lack of a major trigger event.  And they have absolutely demonstrated a disregard for the consequences from doing so several times in the past fifteen years.
So keep your eyes open, and take some modest precautions.