Then Something Bad Happened

Morale was blown up across trading desks this morning as many YTD P/L's go negative after the deal break on Shire Pharma. The maths are ugly; Paulson -$550m, Magnetar -$350m, Elliot -$200m. When these deal breaks happen spreads in other deals tend to widen inflicting more carnage on P/L's. Still, when merger arb guys get killed we're often close to a short term bottom.


Guy Debelle Says It As He Sees It

If we didn't know who RBA assistant governer Guy Debelle was before this morning we certainly do now. His comments that that markets are likely heading for a "violent sell-off" have caught the eye. It's unusual for a centrral banker to be open, frank and transparent so we ought to welcome his observations. Worth a read to get the context here and his comments about market makers here

"But there are probably a sizeable number of investors who are presuming they can exit their positions ahead of any sell-off. History tells us that this is generally not a successful strategy. The exits tend to get jammed unexpectedly and rapidly."

Could have written it myself!

Long Winter


I was lucky enough to be invited to the 18th birthday party of the daughter of a good friend on Saturday. I was pleased to be there because she has endured her own tough journey these past six years that have required digging deep into her own reserves of courage, tenacity and fortitude. Indeed, we all shared the joy of recovery, some though, more enthusiastically than did others. I thought the generous line up of mojito cocktails on the bar to kick things off might have been a tad naïve, but my friend, steady as a rock when the 18 year olds descended on the bar like a herd of wildebeest in a five year drought, said, “don’t worry David, I’ve had a word with the bar staff, half measures only.” Some hours later, as some of the said eighteen year olds were negotiating the dance floor as if they were on the foredeck of a small yacht in a big storm, I couldn’t help thinking that my friend may have underestimated the capacity eighteen year olds to glug half measures of cocktails rendering his cautionary “word to the staff,” somewhat redundant. As the odd 18 year old stumbled out to the bushes or found themselves kneeling over the white porcelain many happy memories of spinning bedrooms came flooding home but I couldn’t help thinking of the market party. Just a wee bit longer and some participants will be reeling around like those 18 year olds, disorientated and numbed to the reality of their predicament.   


Equities just had their worst week since May 2012. I don’t think it’s going to improve much. The Dow, Eurostoxx, FTSE, CAC and Dax are now at a loss for 2014. Aim is in are around bear market territory and the Russell 2000 is off 9.5% YTD. We have been following the multi-decade "Jaws of Death" (Megaphone Top) stock market pattern from way back in 2008-9, and warning that when it finishes, a significant bear market will follow. It is possible that we’re at that juncture now and the next bear market and economic collapse has begun. Most people don’t care to contemplate the J of D thing and some have asked me to stop writing about it. Sorry, it’s not going away.

This blog is not a specialist market blog although I do post the odd thing that may be of interest or of importance to a wider audience. Occasionally, I throw up the odd chart but its important to remember that we can play around with charts and often make them, by manipulating the amplitudes, time frames or by using dodgy correlations fit any particular argument. The way to dispell the noise is to look at longer term charts which eradicate distortion. The MACD, Moving Average Convergence Divergence, is a  trend-following momentum indicator that shows the relationship between two moving averages of prices. The MACD is calculated by subtracting the 26-day exponential moving average (EMA) from the 12-day EMA. A nine-day EMA of the MACD, called the "signal line", is then plotted on top of the MACD, functioning as a trigger for buy and sell signals. Lets take a look at the MACD for some important equity indices then but on long term monthly charts

Monthly MACD on the S&P

Monthly MACD on the FTSE

Monthly MACD on the EuroStoxx

As you can see they are all in fact gently rolling over. The smart money has left the party and is leaving town.

Weekly S&P

There are a growing list of metrics that would usually indicate a short term bottom is at hand. Those include put/call ratios, elevated volatility, oversold momentum, extended relatives and so on. These metrics though work best in bull trends. In bear trends things do get overdone and extended; then they get more overdone and more extended. Remember, crashes mostly happen from oversold conditions, not overbought ones. 

Point of recognition

Many still view the current decline as a “healthy correction.” I may be wrong but I don’t think it is. The “healthy” view will change when the market experiences a point of collective recognition but we’re not there yet. Until then, this adolescent bear will cheerfully chew up bulls and bears alike until market psychology changes. Last week the Investors Intelligence survey registered bears at 14.1%. By the end of this week the other 85.9% will no doubt be considering their position.

In fact, when we witness the inevitable rally sometime this week being met with aggressive selling, as the bears grow in number, I think people may be shocked with the ferocity of moves. That will mostly because a growing wave of sellers will be met with market liquidity displaying the consistency of dried glue. Bulls need to recover the 1990 level in the S&P for the bears to raise the white flag and that looks like a very big ask. All bears need to establish is a lower high.

Crumble discusses the stock market Jaws of Death pattern

In summary then, in my view best case is a rally, perhaps after more weakness from later this month / early Nov  into the year end then the bear grips the investment complex.  Worst case is we skip the rally bit and plummet from here. Traders should look to short snap back rallies or just go on an extended break for 2 years. Long only investors should be in safety first, low beta defensive mode. The 19th of September, when we got out confirmed Jaws of death pattern, may prove to be a historic date for markets.

It’s going to be a long winter.

Extraordinary Man Amongst Extraordinary Men

Britain Afghanistan Marines

I read the story below with growing awe, respect and admiration and have no words to add.

The tragedy leading to this award occurred during an Adventurous Training diving expedition off El Quseir in Egypt in August last year. 40 Commando, which organised the expedition, had only recently spent six months based at 'HMS Price' in central Helmand, Afghanistan for Operation HERRICK XVII. The citation from Supplement No.1 of Thursday 2 October 2014 of the London Gazette  speaks for itself:


St James’s Palace, London SW1

3 October 2014

The QUEEN has been graciously pleased to approve the award of the George Cross to the under mentioned:



Lieutenant Samuel John SHEPHARD, Royal Marines, 30140550.

On 3 August 2013, Lieutenant Shephard Royal Marines was snorkelling in Egypt during a diving exercise when a fellow diver, who was also his friend, suffered an embolism and sank rapidly to the bottom. Shephard rescued his friend’s body from a depth of approximately 60 metres.

At 1700 hours, in fading light and tired after six hours in the water, the pair were snorkelling with four others off a shallow reef 200 metres from the shore. The other diver briefly surfaced with the others, lost consciousness, and sank rapidly to a depth estimated at 40 metres, where he lay bleeding from the nose and mouth. Amidst the panic Shephard immediately took command of the group. He alerted his colleagues and the Dive Instructor on the beach; prepared the group for an evacuation and for 25 minutes sought to rescue the casualty by descending alone, rapidly without air or equipment. A qualified and equipped Dive Instructor arrived within minutes but judged it too dark, deep and dangerous to mount a rescue. Without hesitation Shephard disregarded the instructor’s advice, took his equipment and attempted his own rescue. Without a weight belt he demanded that he be pushed below the surface by his comrades so that he could gain neutral buoyancy to enable him to swim down. Conscious that he was diving to the very edge of accepted safe limits, and following a series of dives that day, he knew the risk of decompression sickness, paralysis or even death, was significant as he made his descent in the fading light. He had to overcome tremendous upward forces, swimming down in less than 5 metres visibility, to reach the bottom. 

Disorientated, now in almost complete darkness, and with a perforated ear drum, he searched for and located the casualty suspended upside down on the reef. His dive watch recorded a depth over 60 metres, far in excess of his training and where the air he was breathing was extremely toxic. Despite the immediate danger, Shephard fought to free his friend, sustained deep lacerations to his legs in the process and, placing himself at even greater risk, removed his mask to give the lifeless diver two rescue breaths. Shephard, now with negative buoyancy, fought against the immense pressure forcing him down to carry the casualty’s limp body back to the surface.

Dismissing the safety of a gradual ascent he risked a near certain severe decompression injury to get his friend to medical care. After 15 minutes in the gloomy water, and against his own expectation, he surfaced without incident. Shephard then led the ensuing evacuation, in the half light, over 200 metres of coral in bare and bloodied feet, providing continual emergency resuscitation until their arrival at the hospital. Unwavering throughout, he was focussed and extraordinarily composed during this most harrowing situation. Tragically, despite his heroic efforts, the casualty died.

In the face of extreme known and manifest personal risk, Lieutenant Shephard showed truly exceptional courage and fortitude in his efforts to save the life of his friend. His unhesitating, selfless act, though ultimately unsuccessful, commands the highest national recognition.

Lt Shephard was promoted Capt RM on 1 September 2013. The casualty was Lt Damien Moran RM.

“Sell everything and run for your lives”

Headline of the week comes from who else but Albert Edwards at SocGen in his Global Strategy Weekly with his "‘Basket trade’ suggests “Sell everything and run for your lives”........... taken from a letter last weekend to the FT from a Mr Matt long who writes,

Sir: The next financial apocalypse is imminent. I know this to be true because the (FT Weekend) House and Home section is now assuming the epic proportions last seen before the great crash. Twenty four pages chock full of adverts for mansions and wicker tea trays for $1,000. You’re all mad.
Sell everything and run for your lives.
Matt Long, Seilh, France.

I rather like Mr Long's approach but fear that he is more accurate in his assessment than perhaps he knows and certainly than most of my colleagues in the City either appreciate or will admit to.

The Ridge

I would, by way of introduction,  like to point out that your correspondent has in fact cycled across the Wadi Rum in Jordan and somewhat surprisingly also Israel from end to end and a battlefield tour of Arnhem by bike, (good idea hmm?!).

I thought then, that I knew the odd thing or two about mountain bikes. I don't. This fella Danny Macaskill does though. Enjoy the short movie, it's worth it to see the Cuillin Ridgeline, never mind the barking lunatic cycling along it.

Divorce; Not What It Was

Challenging must read piece from the eclectic website, Delancy Place and taken from "I Don't: A Contrarian History of Marriage," by Susan Square.

"For nearly a thousand years, an Englishman sick of his wife could slip a halter around her neck, lead her to market -- the cattle market -- and sell her to the highest bidder, often with her willing participation. This informal route to divorce for the lower classes lasted, amazingly, until at least 1887. ... [As reported by non-fiction authors Lawrence Stone in The Family Sex and Marriage and Samuel Menefee in Wives for Sale] a drunken husband sells his wife in the opening chapter of Thomas Hardy's The Mayor of Casterbridge (1886), much to the astonishment of contemporary critics. Oblivious to the informal unlawful marriage and divorce customs of the less literate brethren ('wife-sale' dates back to c. 1073), they could not imagine such a thing happening on British soil in the nineteenth century, even though popular broadsides depicting the practice (one of which illustrates the cover of Menefee's book) were still being produced and widely circulated during that same century. ...

"[In the Old Testament, the law allowed for divorce because of infertility and] Israelite men could divorce their wives for reasons far more vague than infertility. (Wives couldn't divorce their husbands for any reason.) If, for instance, 'she fails to please him because he finds something obnoxious about her,' there's no need to hire a pricey lawyer. He simply 'writes her a bill of divorcement, hands it to her and sends her away from his house.' He'd better be sure this is what he wants, because he can't have her back again. ...

"The Bible, leaving nothing to chance, provides soldiers with a lesson on the fine art of taking enemy women to wife after the enemy has been vanquished. ... You don't just throw her to the ground and have your way with her then and there.  You don't throw her on the ground at all. And you don't have your way with her for an entire month. No, 'you shall bring her into your house, and she shall trim her hair, pare her nails, and discard her captive's garb. She shall spend a month's time in your house, lamenting her father and mother; after that you may come to her and possess her, and she shall be your wife.' The lesson includes instruction on how to get rid of her, too. No bill of divorcement is required, but restrictions do apply: 'Then, should you no longer want her, you must release her outright. You must not sell her for money; since you had your will of her, you must not enslave her.' "

Tesco; The Nightmare

Tesco; The Nightmare

Tesco is in a mess. As the creative financial façade is ripped away the stock market is rightly giving the shares brutal treatment. When trust is impaired it is very difficult to restore. The company is not yet in a death spiral but experience demands we remember, "there is never only one cockroach."

I have only simple questions at this point,

  • Are these fit and proper people to hold a banking licence?
  • The same accountants and investment bankers who advise Tesco advise other corporates. Are these practices common?
  • Will officers of the company who personally benefited from erroneous and misleading accounting be brought to account for their actions?
  • Will the government seize the moment and bring a heavy hand to bear on large corporates who use their scale to exploit small suppliers; effectively making small firms borrow and use their balance sheets to part fund the larger entities operations?

Understanding War

Bad guys

President Obama has just finished talking at the UN where he said the world must act to "reject the cancer of violent extremism." He also talked about the Ukraine, Ebola and the Israel / Palastinian problem but it is clear that minds are focused on clearing out ISIL.

I think many Western and Middle Eastern countries view the Arab Spring as a lucky escape. This new and very different fundamentalist threat though has them very concerned. Many players, or the way they present it, view ISIL as a pestilence that can be eradicated. I'm not so sure it will be that simple. What the papers here haven’t explained is that ISIL are well organised and well led to an extent that is little understood. They have a command structure and operate tactically on the ground to a strategic plan with strategic goals. They have many Chechen's in their leadership so any view of them being a bunch of bloodthirsty mad rag-heads is misplaced.  Its going to take a lot more than air strikes to clean this up.

Recent ISW update

Well informed reporting however is difficult for the passing observer to come by, I'm here to help. These guys, The Institute for the Study of War, send regular updates on the situation on the ground. You can also find updates on other security matters pertaining to the Middle East and Afghanistan and also some reports. The one below, A Strategy to Defeat the Islamic State, written by Kimberly Kagan, Frederick W. Kagan, and Jessica D. Lewis, is well worth a read. Knowledge dispels fear!

Markets; Walking on Ice

You certainty do.....

An opportune time for a distraction into markets which despite looking firm optically are a lot more fragile and shaky beneath.

A poor start to the week then with the G20 joining the IMF and BIS with bubble warnings and of course TSCO which says it has uncovered a “serious” issue, is investigating and has suspended a number of staff; "Principally due to the accelerated recognition of commercial income and delayed accrual of costs". Yep, £250m is serious all right. Something the now suspended UK CEO can reflect on. The fact that small chocolate supplier Moo Free Chocolate had to threaten the firm with a winding up order to receive a payment more than three months overdue is a tell on the internal culture. Tesco is many things but from a market point of view its like a bank, you simply don’t know what is in there because clearly the management don’t. Today’s announcement does though, come after a long period of shall we say financial flair during which return on capital employed deteriorated while EPS increased. Terry Smiths article in the FT earlier this month gave a good précis.

 The Alibaba IPO came and went. Its market cap of $168bn at the offering price made it the 36th most valuable company in the world which clearly wasn’t enough for the market which pushed it up another 50%. Buyers don’t of course get shares in the company. Instead they receive units in a Cayman Islands holding company. It makes most of its money in China, lacks transparency and there is no lock up period for the $8bn worth of units that can be sold. Think I’ve heard enough.

Taper will begin to have a deleterious impact on markets; it has to. In effect, the Fed is draining liquidity with its massive position in securities issued by corporations and government. As issues mature and coupons are due, money will flow to the Fed from the issuers withdrawing money from the economy. It’s tightening in all but name and its not a great time for that to happen. The Fed delayed a cathartic clean out with QE but having kicked the can down the road we’re arriving at the spot where it landed. Velocity of money slowing and tighter lending are not what equities like to hear.

Hindenburg Omen back again to cheer us up

Market participants should be braced for more negative headlines and by now be positioned defensively. The market is in a fragile and precarious place. Thursdays first Hindenburg signal was confirmed with another on Friday. That means that we have a 25% probability of a crash in the next four months. In itself that’s something we can manage but with the timing coinciding with the negative divergence in the NYSE cumulative advance/decline line and the 23 year maturing Jaws of Death Megaphone Top pattern we have a confluence of indicators bearing down which ought to make us sit up and take notice.

On Friday, New Highs were 128 and New Lows 102, the lower being 3.14% above the 2.20% threshold. New highs were not more than twice new lows, the McClellan Oscillator was negative and the 50 day moving average was higher than it was 10 weeks ago. With the exception of the mini crash of summer 2011, a HO has been present in every crash for the past 27 years but there hasn’t been a crash every time a HO signal has appeared.

 The divergence in the NYSE Cumulative Advance Decline Line started at the beginning of the month and is moving rapidly. The depth is similar to that last seen in 2007.  We also see negative divergence in the Russell and NASDAQ 10 day moving average Advance/Decline Line.

 Despite the record high close in the Dow on Friday decliners outnumbered advancers with a ratio of 1.4:1. As we discussed last week, many parts of the stock market hit highs months and months ago and have been in decline since. Yet we continue to see headlines typical of euphoric phases such as those alluding to luxury goods, residential and commercial property, art and tech. That the Russell 2000 is at a 22 month low ought to be a concern for investors. UK small caps are in a better place but for how long I wouldn’t like to speculate.

The original expectation of a 5-10% correction is still good but these other developments are telling us that while equities may look good optically, in fact market psychology beneath the surface is quickly turning negative. The expected correction could surprise to the downside.

The SKEW Index which we discussed on Friday closed at 146.08; that’s the highest reading since 1989. This index indicates that option traders are pricing in a near record probability of a large move in the next month.

European equities will also reverse this week. Quite simply, take nothing at face value; equities are displaying multiple exhaustion signs and are walking on ice.

Commodities meanwhile are not making life easy for anyone. On the one hand, multiple commodities are at multiyear support points; on the other the broad based commodity indexes are not a picture of health and vitality. At some point liquidity will flow from equities into the commodity complex but right now they are signalling deflation. If these already oversold assets are hit hard again there is a pretty simple message for equities there.

Gold, silver, Euro and Sfr all on support lines going back to the early 2000’s.

…. And the converse of those is the USD which is back at long term resistance and where bullish sentiment is plentiful.

Crude is back to 5 year support which really needs to hold.  It could drop rather a long way if it fails. Oil is probably waiting for the dollar to top but the rest of the commodity complex is unlikely to get a lift unless oil is leading.

Gold bulls need to be prepared. If they're not yet in the bunker they should be.

This week could be a bad one for precious metals. Fasten seat belts and cross check. Gold is sinking into its capitulation phase. It’s taken a while. I first decribed this in a piece called “Panic and Opportunity,” back in April. “A failure there, ($1280), will demoralise gold bulls but it will portend a more significant fall to the Dec low at $1180 with a possibility of the $1050’s beyond. A collapse to those levels would obliterate sentiment, create forced sellers and create the conditionality required for a final bear market cathartic cleansing thereby forming a firm base from which to move into a multi year bull market. That point of maximum pain will be the point of maximum opportunity but it will feel gut wrenching to pull the trigger when everyone else is racing round with their pants on their head.” Not much to add to that.

We can expect a reasonable bounce from daily cycle lows in the precious metals but most rallies will be met with more selling. We need to get through the cathartic washout to create the foundation for a long term rally.

In summary then, we’re about to see the kind of volatility usually associated with  the second half of September. Nothing unusual there but given the fragility of markets which has been largely ignored by the media surprise moves, and risk, therefore lie to the downside.