Thursday, December 15, 2011

A New Blog Home

Last week, we unveiled our brand new, completely redesigned Pinnacle Advisory Group website. When we started the Echoes from the Pit blog in 2009, we kept it separate from the company site, since there was really no place to host it there. However, with our new online home, we're now bringing our investment blog over. Echoes from the Pit will continue -- make no mistake -- but it will do so over at the main Pinnacle website. If you've been receiving Echoes from the Pit updates by email, you'll continue to get them without interruption.

Here's the new Pinnacle website.

And here's a shortcut directly to Echoes from the Pit. We'll be adding some recognizable "Echoes" imagery to it in the next week, but all the content is right there now. (Be sure to bookmark it.)

This is a great opportunity to explore Pinnacle's new site. There's a lot to see: In addition to our investment posts, we'll also be carrying helpful articles on money management, and regular video profiles, interviews and mini-documentaries.

We're going to keep this page up for a month so readers see the announcement. Then in mid-January, we'll put an autoforward on this address so that visitors are taken automatically to the new site.

We'll see you over there!

Friday, December 2, 2011

Chinese and U.S. Relative Strength

China may be sporting a 9.1% Year over Year Real GDP, but the stock market certainly does not reflect that strength. The chart below displays the S&P 500, which is the green line in the top chart, and the Chinese Stock market measured through FXI ETF, which is the red line in the top chart. It also shows the relative strength of the S&P 500 measured against China. When the line is falling, the Chinese stock market is performing worse than the U.S. stock market.

There are a few things to point out on this chart. First, the Chinese stock market has been underperforming the U.S. stock market since July 2009 (as marked by the light blue lines). Second, the Chinese stock market has created a new downtrend channel, which means it is underperforming by an even larger margin since the beginning of the year. I have marked this with the red lines.

Finally, the red, downtrend channel has provided traders with nice buy and sell signals. I have focused on the sell signals which I marked with the vertical black lines in the chart. When the relative strength line hits the upper red line, it has marked a good selling opportunity for traders. With the recent policy intervention by the global central banks, we are once again seeing the relative strength line rising to that red line. I will be watching this over the next few days to see if it once again portends a good selling opportunity.

Wednesday, November 30, 2011

Central Banks to the Rescue

Markets exploded higher today on the news of a couple big actions from global central banks. First was the report that China had lowered its reserve ratio by a half percentage point, indicating that it has now shifted to policy easing and boosting economic growth, rather than continuing to battle inflation through policy tightening (as they’ve been doing for the past two years). Then came the announcement that six major central banks -- including the Fed, ECB, and BOE -- were unveiling a new arrangement that lowers the interest rate on dollar currency swaps in an attempt to end the worsening bank funding crunch in Europe.

It seems like we’ve been down this road several times since the European debt crisis began to intensify earlier this year. Some grand plan or solution is floated, and the markets rejoice, only to fall back again when investors realize that the core problem -- the ultimate solvency of over-indebted nations -- has not been resolved. However, we’re also aware that the central banks are powerful enough to spark sustained market advances even in the face of suspect fundamentals, as the Fed has done in the past couple of years with QE1, QE2, etc. So today’s actions can't simply be ignored.

Once again we’re left to ponder whether “this is it” -- the game changer that signals all is well and investors can safely swim in the risk pool again. While today’s rally is certainly impressive, we don’t think we can make that determination just yet. For our part, we’ll be looking for signs of confirmation in coming days – key technical levels being taken out on the upside, a credible plan out of Europe, etc.

Tuesday, November 29, 2011

Credit Not Confirming the Equity Rally

Yesterday was a big day for equity markets, and today I did a quick check to see how some of the European credit metrics were behaving. From what I've seen, the credit markets have not confirmed the equity bounce. Below are a few charts we're watching, along with our interpretation. 

ECB Eurozone Liquidity Recourse to the Deposit Facility is rising fast again. This implies that banks are afraid to lend, and would rather just park funds at ECB. 

Euribor OIS is elevated. This chart is watched as a barometer for interbank lending in Europe, and high and rising levels say that bank lending to other banks remains in a stressed state. This metric confirms the message coming from the prior chart. 

Credit Default Swap (CDS) pricing on European Sovereign debt is still surging. This suggests that the cost to insure against European Government default is rising rapidly.

CDS for European Banks are surging up in price. Unicredit SpA(Blue line) is one of Italy’s largest banks. This chart shows that the markets are pricing default risk into European banks at an alarming rate, and many now cost more to insure than they did during the great credit crises of 2008/2009.

The Ted spread is used as a measure of confidence in the financial and banking system, and it is moving up in tandem with the other measures I mentioned. This is not a good sign for the health of the banking system.

There are more charts, but you get the point. Equities had a big day yesterday, but credit markets have not confirmed the latest equity market rally.

Monday, November 28, 2011

The Brutal Realities of Calendar Year Reporting

The year is rapidly coming to a close, and 2011 will be remembered by Pinnacle’s investment team as one of the more difficult in recent memory. The financial markets have faced a variety of challenges, including those caused by natural disasters (the tsunami, earthquake, and nuclear meltdown in Japan), political upheavals (the Arab Spring, U.S. debt downgrades, and ongoing political gridlock), and financial turmoil (the European crisis). The investment team has responded to changing market conditions with a series of transactions that, for the most part, have reduced the risk in our managed accounts in anticipation of volatile markets. By my count we have executed more than thirty trades since June of this year, and more than one hundred transactions since January, each of which has been the subject of intense debate within the team. I hope to never again sit in on a meeting where the topic of discussion is the implications of a cloud of radioactivity drifting over a major industrial city.

Yet for all the hard work, we come to the last month of the year with Pinnacle portfolios basically breaking even versus our various benchmarks for both year-to-date absolute performance and year-to-date relative performance. For those investors who tend to think in terms of “How much did I make?” the year is going to be disappointing. Even a big December rally won’t rescue what is likely to be small single digit returns for the year. Of course, investors who think in relative terms are still in the game. If the markets continue to sell-off as they have over the last couple of weeks, we have an opportunity to beat our benchmarks by several hundred basis points. In a year or two no one will remember all of the work that went into earning our returns in 2011 -- all they will see is the calendar year number buried along with all of our other calendar year numbers.

It is precisely this state of affairs that causes so much mischief in the world of professional investors. The fact that four weeks of performance will dictate how others judge your entire year doesn’t seem fair…but there it is. Unlike the hedge funds that will most certainly ‘game’ whatever is to come in the next month in the hope of making their year, there is nothing in Pinnacle’s playbook that would allow us to do the same. While we’re certainly not passive investors with no tools to take advantage of market opportunities, we simply don’t operate with a four week time horizon, and we won’t change the portfolio positioning from defensive to aggressive in order to try to catch a flash market rally that could reverse at any time. It is possible that the markets will continue to sell-off during the month of December, in which case we will be big relative winners due to the defensive character of our current portfolio asset allocation. On the other hand, the market could easily rally if the market becomes too oversold in the short-term... or if we have a typical “Santa Claus” rally... or if the Fed announces QE3... or if the ECB announces its own quantitative easing program...

It’s going to be an interesting four weeks. Stay tuned.

Wednesday, November 23, 2011

Triangle Measure and 61.8% Retracement

Last week, Carl wrote a blog post on the triangle pattern that formed after the large October rally. As he mentioned, this is usually a continuation pattern. However, traders would have been wise to wait for the upside breakout, because the pattern broke to the downside. I marked the triangle with the red and white lines in the chart below, and you can see the price breaking the white line to the downside last week. This has led to a vicious decline over the last few trading days and we now stand at a key inflection point.

When the triangle breaks, an estimated price move can be obtained by subtracting the low from the high of the triangle, and then subtracting the result from the break level. For this triangle that would be 1235-(1290-1220). This gives us an initial price target of 1165, which is the low for today (although the day is not over). Additionally, this level is the 61.8% retracement of the October rally, which I circled in green. So the S&P 500 is testing a good support level right now, and if this does not hold, it's very likely the 1100-1120 lows for the year will not be far behind.

Tuesday, November 22, 2011

Hanging on a Headline

Today brought a revision to 3rd quarter GDP, which while disappointing, is at least in our rearview mirror. It also brought the Richmond Fed Manufacturing Survey, which was better than anticipated, but still pretty anemic (zero versus the expected negative two). At this point, we’re looking at low volume markets that are whipping all over the place, and appear to be hanging on the next headline.

Thus far, the two high impact stories of the day are the revamping of a credit line by the International Monetary Fund (IMF) and the (apparently early) release of the Fed minutes. Markets caught a bid on the IMF line, but quickly sold back off as the details look somewhat lackluster. The minutes were just released and markets have surged again on hopes that the Federal Reserve might jump to the rescue. Whether that will hold is another story.

As we approach the Thanksgiving holiday, I give thanks for my family, my co-workers, and our clients, who trust us to manage their precious assets. I’d also like to give thanks that Thursday I can eat some turkey in peace without worrying that the next headline might produce another round of high powered volatility.