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Breaking The “V”

  • Markets
  • Charlie Bilello

The V-shaped bottom regime ended today as the Dow Jones Industrial Average broke below its early January low. This break, with no “new all-time high” preceding it, ends a remarkable string of vertical rallies to new highs dating back to the beginning of 2013.

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I don’t usually write about chart patterns, but this one is particularly important because it speaks directly to the psychology of the market. As we know, in the short-run psychology is everything so a small change in psychology can have a large impact on markets.

The V-bottom pattern, occurring over and over again since early 2013, had created a system of positive sentiment override whereby all news was deemed to be good news. It also generated a belief among market participants that there was no longer any risk in U.S. equities. With 0% interest rate policy and seemingly endless quantitative easing, the Fed had finally eradicated that nasty four letter word. Or so we were told. 

A few weeks back I wrote the following:

“There seems to be a heightened awareness and even an expectation regarding the “V” bottom today, so much so that market participants don’t seem to entertaining any deviation from this pattern (as a side note, I find it interesting that Jeff Gundlach has entitle his 2015 market outlook “V”). From a sentiment standpoint, this is concerning. By the time everyone is aware of a pattern and expecting it continue it is probably closer to the end than the beginning.

Fast forward to today and we are likely seeing an end of the “V” regime. The question, of course, is what comes next?

As I have been noting, the market environment is behaving more and more like the post-QE environments of 2010 and 2011.

Back then, we saw heightened volatility, defensive sector leadership, widening credit spreads, plummeting bond yields and deeper stock market corrections.

Let’s take an updated look at each of these factors today.

First, we are starting to see heightened volatility that we haven’t  seen since 2012.

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Second, defensive sectors continue to lead, with Utilities as the top performing sector thus far in 2015 and all the way back to the start of 2014.

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Third, credit spreads remain elevated, significantly wider than year-ago levels.

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Fourth, bond yields are plummeting with the U.S. 30-year yield hitting a new all-time low today at 2.28%.

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Collectively, these factors suggest that the environment is starting to look like the prior two post-QE periods. What’s missing, of course, is the deeper correction in equities.

Today’s action and the psychological breaking of the “V” may be a first step in that direction. If it does indeed mirror the moves in 2010 and 2011, we still have yet to see the extreme spike in the ratio of bonds to stocks and the VIX Index.

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If that spike occurs in the coming weeks or months, there is a high probability that the Fed will remain on hold. For as we saw in 2010 and 2011, it is the direction of the stock market and not economic data that has dictated Fed policy in recent years. If there is a significant stock market decline, we may very well be talking about another round of QE in a few months instead of the first rate hike.

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At Pension Partners, our Beta Rotation and Inflation Rotation strategies remain defensively positioned.

This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

CHARLIE BILELLO, CMT

Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts.  He is the co-author of two award-winning research papers in 2014 on Intermarket Analysis and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors, an institutional investment research firm. Previously, Mr. Bilello held positions as an Equity and Hedge Fund Analyst at billion dollar alternative investment firms, giving him unique insights into portfolio construction and asset allocation.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University and a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.

You can follow Charlie on twitter here.

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